Risk Horizon and Rebalancing Horizon in Portfolio Risk Measurement

35 Pages Posted: 11 Feb 2012

Multiple version iconThere are 2 versions of this paper

Date Written: April 2012

Abstract

This paper analyzes portfolio risk and volatility in the presence of constraints on portfolio rebalancing frequency. This investigation is motivated by the incremental risk charge (IRC) introduced by the Basel Committee on Banking Supervision. In contrast to the standard market risk measure based on a 10‐day value‐at‐risk calculated at 99% confidence, the IRC considers more extreme losses and is measured over a 1‐year horizon. More importantly, whereas 10‐day VaR is ordinarily calculated with a portfolio’s holdings held fixed, the IRC assumes a portfolio is managed dynamically to a target level of risk, with constraints on rebalancing frequency. The IRC uses discrete rebalancing intervals (e.g., monthly or quarterly) as a rough measure of potential illiquidity in underlying assets. We analyze the effect of these rebalancing intervals on the portfolio’s profit and loss distribution over a risk‐measurement horizon. We derive limiting results, as the rebalancing frequency increases, for the difference between discretely and continuously rebalanced portfolios; we use these to approximate the loss distribution for the discretely rebalanced portfolio relative to the continuously rebalanced portfolio. Our analysis leads to explicit measures of the impact of discrete rebalancing under a simple model of asset dynamics.

Keywords: risk management, portfolio rebalancing, liquidity

Suggested Citation

Glasserman, Paul, Risk Horizon and Rebalancing Horizon in Portfolio Risk Measurement (April 2012). Mathematical Finance, Vol. 22, Issue 2, pp. 215-249, 2012, Available at SSRN: https://ssrn.com/abstract=2003207 or http://dx.doi.org/10.1111/j.1467-9965.2010.00465.x

Paul Glasserman (Contact Author)

Columbia Business School ( email )

3022 Broadway
403 Uris Hall
New York, NY 10027
United States
212-854-4102 (Phone)
212-316-9180 (Fax)

Here is the Coronavirus
related research on SSRN

Paper statistics

Downloads
2
Abstract Views
577
PlumX Metrics