BISAM Daily Risk Statistics – Post Inauguration Market Observations

Posted by Erika Alter, Global Head of Commercial Strategy, BISAM on Jan 25, 2017 11:27:57 AM
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In their November 2016 post-election analysis, Is the Recent Market Rally Indeed Small Caps Drivenour BISAM Quant team noted that, “despite the media expectations of a swift market crash following the U.S. presidential elections on November 8, 2016, the markets actually continued going up significantly.” Since then, our team has kept an eye on the Cognity Daily Risk Statistics, which visualize Normal vs. Fat-Tail VaR spreads.*  As of today, it would seem that the spreads have remained fairly flat across both the Russell 2000 and S&P 500 - a signal of ongoing optimism in the current market regime.  

Bono Nonchev, Senior Quant Analyst at BISAM, explained, “signs of increasing market turbulence would be represented by a widening of the spreads – an early indicator of volatility to come. Right now, nearly a week after the inauguration, those spreads do not appear to have widened.” This was a bit to my surprise given that the markets closed lower on Monday, post-inauguration; and also ongoing speculation that the President Trump regime will unleash anxiety in the stock markets. 

However, as of today, the markets are once again rallying, which is on par with the lack of turbulence observed in the Daily Risk Statistics.

Daily Risk Statistics: Normal vs. Fat-Tail VaR on the Russell 2000 as of January 25, 2017:

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Daily Risk Statistics: Normal vs. Fat-Tail VaR on the S&P 500 as of January 25, 2017:

S&P 500 VaR-1.png

Additional Observation (And Shameless Plug)

As our published research has shown, the Cognity Fat-Tail VaR measure gives a more accurate estimate of downside risk, as compared to typical VaR measures. Interestingly, if you look above at the Fat-Tail and Normal VaR measures on the S&P 500 this month, you’ll see the Normal VaR measurement has been slow to readjust after the very brief period of volatility surrounding the November 8 election. This is because typical VaR measures are based only on the thin-tailed, symmetric normal distribution curve, resulting in VaR estimates that inadequately account for extreme events. However, the Cognity Fat-Tail VaR adjusted in real-time, allowing for the more accurate view. The Cognity modeling framework understands the structure of financial asset distributions and adapts to all markets and market regimes.

* One approach we've previously discussed for assessing the level of market 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/ETL model. In the case of “normal” markets, the two approaches would coincide. Widening of that spread shows increasing market turbulence, and associated with that, increasing probability of extreme events. This concept is continuously demonstrated by our published case studies and research.


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Topics: Daily Risk Statistics, Risk Management

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