16 Pages Posted: 12 Feb 2009 Last revised: 19 Feb 2009
Date Written: February 17, 2009
Quantitative risk management relies on a constellation of tools that are used to analyze portfolio risk. We develop the standard toolkit, which includes betas, risk budgets and correlations, in a general, coherent, mnemonic framework centered around marginal risk contributions. We apply these tools to generate side-by-side analyses of volatility and expected shortfall, which is a measure of average portfolio excess of value-at-risk. We focus on two examples whose importance is highlighted by the current economic crisis. By examining downside protection provided by an out-of-the-money put option we show that the diversification benefit of the option is greater for a risk measure that is more highly concentrated in the tail of the distribution. By comparing two-asset portfolios that are distinguished only by the likelihood of coincident extreme events, we show that expected shortfall measures market contagion in a way that volatility cannot.
Keywords: risk management, quantitative extreme
Suggested Citation: Suggested Citation
Goldberg, Lisa R. and Hayes, Michael Y. and Menchero, Jose and Mitra, Indrajit, Extreme Risk Management (February 17, 2009). MSCI Barra Research Paper No. 2009-4. Available at SSRN: https://ssrn.com/abstract=1341363 or http://dx.doi.org/10.2139/ssrn.1341363
By Msci Inc.