A “leave” vote in the British EU referendum will not leave any market unshaken and could have a profound impact on many multi-asset class portfolios. While there are many unknowns, there are some things we can be sure of: trading will be rapid and volatility will rise. With this in mind, the risks in multi-asset class portfolios need to be very well understood in order to prevent large unexpected losses.
Topics: Risk Management
Last week we mentioned the concept of measuring market turbulence as an additional risk indicator. One approach for assessing the level of turbulence is to look at the difference in the tail (possibility for extreme events) as measured by the Normal VaR (or ETL) and the Cognity Fat-tailed VaR (or ETL) model. In the case of “normal” markets (i.e. no excess probability of extreme events), the two approaches would coincide. Widening of that spread shows increasing market turbulence, and - associated with that - increasing probability of extreme events.
To analyze the current market environment, we typically look at different markets and factors comparing the current Fat-tailed versus Normal VaR spread for each one of the segments to the average values observed during various important historical periods.