L2 组合课件

Portfolio Management
Level 2 -- 2019
Instructor: Feng
1
Brief Introduction
Topic weights:
Study Session 1-2 Ethics & Professional Standards 10 -15%
Study Session 3 Quantitative Methods 5 -10%
Study Session 4 Economics 5 -10%
Study Session 5-6 Financial Reporting and Analysis 10 -15%
Study Session 7-8 Corporate Finance 5 -10%
Study Session 9-11 Equity Investment 10 -15%
Study Session 12-13 Fixed Income 10 -15%
Study Session 14 Derivatives 5 -15%
Study Session 15 Alternative Investments 5 -10%
Study Session 16-17 Portfolio Management 5 -15% 1-3 cases
Weights: 100%
2
Brief Introduction
Contents:
➢ SS 16: Process, Asset Allocation, and Risk Management
✓ Reading 46: The Portfolio Management Process and The
Investment Policy Statement (☆) 复习⼀级
✓ Reading 47: An Introduction to Multifactor Models (☆☆☆) 多因⼦模型：考点
✓ Reading 48: Measuring and Managing Market Risk (☆☆☆)
3
Brief Introduction
Contents:
➢ SS 17: Economic Analysis, Active Management, and Trading
✓ Reading 49: Economics and Investment Markets (☆)
✓ Reading 50: Analysis of Active Portfolio Management
(☆☆☆)
✓ Reading 51: Algorithmic Trading and High-Frequency
Trading (☆)
4
Brief Introduction
考纲对比:
➢ 与2018年相比，2019年的考纲没有变化。但权重从
5%~10% 提高到 5%~15%。
5
Brief Introduction
Level I vs. Level II:
➢ 初看关系不大，但跟Level I 的逻辑框架基本一致，还是
沿着组合管理的几个基本步骤，在一级的基础上进行了
更加深度的学习。
6
Brief Introduction
学习建议:
➢ 本门课程难度不大，但知识点比较杂，概念比较多；
➢ 章节之间比较独立，可以对重点章节重点学习；
➢ 适当做题，不需要刷题；
➢ 最重要的，认真、仔细的听课。
7
Brief Introduction
成功了，可以高兴但不可狂妄；
失败了，可以悲伤但无需绝望！
8
The Portfolio Management Process and The Investment
Policy Statement
Portfolio Management Process and IPS

Tasks:
➢ Describe the steps of the portfolio management
process;
➢ Explain the role and elements of the investment
policy statement;
➢ Define and distinguish investment objectives and
constraints.
9
Portfolio perspective 投资组合⻆度
➢ Focus on the aggregate risk-return tradeoff of all the

总的⻛险回报的影响
investor’s holdings: the portfolio.
✓If we evaluate the prospects of each asset in isolation, we
will likely misunderstand the risk and return prospects of
the investor’s total investment position-our most basic
concern.
10
Steps of portfolio management process
➢ Planning
✓Identifying and specifying the investor’s objectives and
投资者的⽬标和限制
constraints;
✓Creating the investment policy statement (IPS); 投资策略书
✓Forming capital market expectations; 市场预计
✓Creating the strategic asset allocation.
11
Steps of portfolio management process (Cont.)
➢ Execution 执⾏
✓Specifying the investment strategy and asset allocation;

✓Specifying the security selection; 决定具体证券
✓Portfolio constructions and revisions.

➢ Feedback
✓Monitoring and rebalancing;
✓Performance evaluation.
12
Definition of IPS
➢ An IPS is a written planning document that governs all
书⾯的指导投资策略的
investment decisions for the client.
Role of IPS
➢ The IPS serves as the governing document for all investment
decision-making.
13
Elements of IPS
➢ A brief client description;
➢ Purpose of of establishing IPS;
➢ Duties and investment responsibilities of parties involved;
➢ Statement of investment goal, objectives and constraints;
➢ Schedule for review of investment performance and IPS;
➢ Performance measures and benchmarks to be used; IPS每年更新⼀次
➢ Considerations for strategic asset allocation;

➢ Investment strategies and investment styles; 主动还是被动投资，
价值还是成⻓—⻛格
➢ Guidelines for portfolio rebalancing.
14
Investment objectives and constraints
➢ Investment objectives
✓Risk objective
✓Return objective
RRTTLLU
➢ Investment constraints
✓Liquidity constraints
✓Time horizon constraints
✓Tax constraints
✓Legal and regulatory factors
✓Unique circumstances
15
Risk objectives
➢ Types of risk objective:
✓Absolute (e.g. std dev.) vs. relative (e.g. tracking risk);
✓Downside risk (e.g. VaR). 只关注loss
➢ The risk objective limits how high the investor can set the
return objective.
16
Risk objectives
➢ Risk tolerance: combination of ability and willingness to
take risk:
Ability
willingness
Below average Above average
Below average Resolution 先教育他，但不能强求，可
Below average 能还是听他的
risk tolerance needed
Below average
Above average Above average
risk tolerance
17
Risk objectives
➢ Factors that affect ability to accept risk:
✓Required spending needs 开销⼤⼩
✓Long-term wealth target ⻓期财富⽬标
✓Financial strength 其他不⾜
✓Liabilities 负债
18
Investment objectives (Cont.)
➢ Return objective
✓Types of return objective:
• Nominal return vs. real return; 是否调整通货膨胀
• Pre-tax return vs. after-tax return;

• Desired return vs. required return.
✓Total return perspective:
• Consider both income and capital gain.
✓Return objective must be consistent with risk objective.
19
Investment time horizons
➢ Investors may have short or long investment horizons, or
some combination of the two when multiple investment
goals are identified.
➢ The longer the time horizon the more risk the investor can
take.
✓Investors may allocate a greater proportion of funds to
risky assets when they address long-term as opposed to
short-term investment objectives.
20
Investment time horizons (Cont.)
➢ With a focus on risk, even investors with a long-term
objective may limit risk taking because of sensitivity to the
期间损失太⼤可能也不⾏
possibility of substantial interim losses.
➢ The investment policy must be designed to accommodate all
time horizons in a multistage horizon case (Short-, medium-,
and long-term goals).
21
Strategic asset allocation 战略资产配置⻓期：战略
➢ Combine the IPS and capital market expectations to

formulate target weightings on acceptable asset classes. 在资产类别中做配置
✓Tactical asset allocation is allowed for temporary shifts.

短期：战术资产配置
22
Strategic asset allocation (cont.)
➢ Forecasts of risk-return characteristics are required for asset
classes that are included in the investor’s portfolio so that
the expected risk-return profiles is well understood;
➢ An investor with a shorter investment time horizon will 短期内投资，⻛险⼩，equity少
often choose a strategic asset allocation that is relatively less

risky, with a smaller allocation to equities.
23
Ethical responsibilities of portfolio manager
➢ Ethical conduct is the foundation requirement for managing
investment portfolios.
✓The portfolio manager must keep foremost in mind that
he or she is in a position of trust, requiring ethical conduct
towards the public, client, prospects, employers,
employees, and fellow workers.
24
Summary
➢ Importance: ☆
➢ Content:
✓ Portfolio management process;
✓ Role and elements of IPS;
✓ Investment objectives;
✓ Investment constraints.
➢ Exam tips:
✓ 不是考试重点。
25
An Introduction to Multifactor Models
Arbitrage Pricing Theory (APT)
Tasks:
➢ Describe APT, including its underlying assumptions;
➢ Determine whether an arbitrage opportunity exists
with APT model;
➢ Calculate the expected return on an asset with APT
model.
26
Arbitrage Pricing Theory (APT)
Review: CAPM
市场的⻛险溢价
➢ E[Ri ]=R f + βi [E(Rm -Rf )]
✓The expected returns (required return) of assets vary only
by their systematic risk as measured by beta (β);
✓Expected return (required return) obtained from the
CAPM is used for assets valuation by investors and capital
折现率
budgeting to determine economic feasibility of projects .
27
Arbitrage Pricing Theory
Review: assumptions of CAPM
➢ Investors are risk averse, utility-maximizing, rational
individuals;
➢ Markets are frictionless, including no cost and no taxes;
➢ Investor plan for the same single holding period; mean variance 算数平均⼀期
➢ Investor have homogeneous expectations or beliefs;

➢ All investments are infinitely divisible;
➢ Investors are price takers. 不能操控价格
28
Arbitrage pricing model
➢ A linear model with multiple systematic risk factors. 线性模型
E(RP ) = RF + βP,1 (λ1 ) + βP,2 (λ 2 ) +...+ βP,k (λk )

✓βp,j = the sensitivity of the portfolio to factor j; 对⼀个⻛险因⼦的敏感度
✓λj = the expected risk premium for risk factor j; or the risk
premium for a pure factor portfolio for factor j.
• Pure factor portfolio: a portfolio with sensitivity of 1 to
只有⼀个⻛险因⼦，其他都为0，
factor j and sensitivity of 0 to all other factors; 且beta=1
• Also called factor risk premium.

29
Assumptions of APT
➢ A factor model describes asset returns; 假设线性关系
➢ There are many assets, so investors can form well-diversified

可以消除⾮系统性⻛险，通过充分分散化
portfolios that eliminate asset specific risk;
➢ No arbitrage opportunities exist among well-diversified
portfolios. 没有套利机会
30
Arbitrage pricing model (Cont.)
➢ APT provides an expression for the expected return of asset
assuming that financial markets are in equilibrium; 市场均衡，没有套利机会
➢ APT makes less assumptions than CAPM and does not

identify the specific risk factors as well as the number of risk
factors.
✓CAPM can be regarded as a special case of APT with only
one risk factor (market risk factor).
31
Example
➢ Calculate the expected return for a portfolio with following
information using the APT model. The risk free rate is 5%.
Risk factor 1 Risk factor 2
Factor betas 1.8 0.9
Factor risk premiums 1.5% 2%
Answer:
➢ E(R) = 5% + 1.8*1.5% + 0.9*2% = 9%.
32
Arbitrage opportunity
➢ An opportunity to conduct an arbitrage: earn an expected
positive net profit without risk and with no net investment
不承担⻛险，⼜没有投资
of money.
✓If two portfolios with identical risk factors and factor
sensitivities have different return, there is an arbitrage
有相同的⻛险因⼦，有相同的beta，但是回报不同
opportunity.
33
Example
➢ Suppose we use a one-factor APT model to evaluate assets,
and we observe the following information, identify the
arbitrage opportunity.
Portfolio Expected Return Factor Sensitivity (Beta)
A 0.075 0.5
B 0.07 0.4
C 0.08 0.45
34
Answer:
➢ We can create a portfolio D with 50% A and 50% B:
Factor Sensitivity
Portfolio Expected Return
(Beta)
A 7.5% 0.5
B 7.0% 0.4
C 8.0% 0.45
D 回报
7.25% 0.45 相同
(0.5A+0.5B)
35
Answer (Cont.):
➢ As Portfolio D (0.5A+0.5B) has the same factor sensitivity as
Portfolio C but a different expected return, then an arbitrage
opportunity exists: Portfolio C is undervalued.
✓By buying Portfolio C and short-selling Portfolio D, we
expect to earn a riskless 0.75% return.
36
Summary
➢ Importance: ☆☆☆
➢ Content:
✓ APT model and its assumptions;
✓ Arbitrage with APT model;
✓ Asset return with APT model.
➢ Exam tips:
✓ 常考点1：APT模型的assumption和interpretation；
✓ 常考点2：根据APT模型算资产回报。
37
Multifactor Models: Introduction
Tasks:
➢ Describe and compare macroeconomic factor
models, fundamental factor models, and statistical
factor models.
38
Multifactor models 宏观因⼦模型
➢ Macroeconomic factor model

实际值和预期值的差别
✓Risk factors: surprises in macroeconomic variables.
• E.g.: GDP, interest rate, inflation, credit spreads, etc.
信⽤利差
➢ Fundamental factor model

✓Risk factors: attributes of stocks or companies.
• E.g.: P/B ratio, P/E ratio, earning growth rate, etc.
➢ Statistical factor model
✓Use statistical methods to explain asset returns.
39
Macroeconomic factor models
➢ Ri = ai + bi1F1 + bi2F2 + ... + biKFK + εi
✓Ri = the return to asset i;
✓ai = the expected return to asset i; 在预期回报的基础上进⾏调整
✓Fk = the surprise in the factor k, k = 1, 2, ..., k;

• Difference between realized value and predicted value. baseline 年初预期
✓bik = the sensitivity of the return on asset i to a surprise in

factor k, k = 1, 2, ..., k;
✓εi = an error term. 历史数据做回归，解释不了就是残差项
➢ Example: Ri = E(Ri) + bi1FINFL + bi2FGDP + εi

40
Fundamental factor models 把每⼀个attribute标准化了，
再在平均基础上进⾏调整
➢ Ri = ai + bi1F1 + bi2F2 + ... + biKFK + εi
✓Ri = the return to asset i;
✓ai = regression intercept necessary to make the
沪深300分散掉了，截距=指数的汇报
unsystematic risk of asset equal to zero;
✓Fk = return associated with the factor k, which are asset
beta=1, 当和平均值查⼀个标准差的时
候，回报差多少
attributes that are important in explaining cross-sectional
differences in stock prices; 截⾯数据，解释股票价格不⼀样的
✓bik = standardized beta of attributes of the asset. 标准化的beta 300⽀股票，
Value of attribute k for asset i- Average value of attribute k (P/E_i - PE_avg)/ std_P/
bik = E
σ(values of attribute k)
41
Macroeconomic vs. Fundamental factor models
➢ Interpretation of factors
✓Macroeconomic factor models: surprises in the
macroeconomic variables;
F
✓Fundamental factor models: return associated with asset
attributes.
➢ Interpretation of factor sensitivities
✓Macroeconomic factor models: regression slope estimate;
✓Fundamental factor models: standardized beta. 和平均值相⽐查了⼏个标准差
42
Macroeconomic vs. Fundamental factor models (Cont.)
➢ Interpretation of intercept term
✓Macroeconomic factor models: the asset’s expected return
预期回报
based on market expectations (e.g. APT);
✓Fundamental factor models: regression intercept. 回归出来的=平均回报
43
Macroeconomic vs. Fundamental factor models (Cont.)
➢ Data processing
✓Macroeconomic factor models: develop the factor (surprise)
时间序列数据
series first and then estimate the factor sensitivities 先有了F，再回归出b
through regressions;
✓Fundamental factor models: specify the factor sensitivities 截⾯数据，先求b，再回归求F
(attributes) first and then estimate the factor returns

through regressions.
44
Statistical factor models 统计学因⼦模型
➢ These models make minimal assumptions but the factors are

difficult to interpret economically, in contrast to
macroeconomic models and fundamental models.
45
Practice 1
Last year the return on Harry Company stock was 5 percent.
The portion of the return on the stock not explained by a two-
factor macroeconomic factor model was 3 percent. Using the
data given below, what is Harry Company stock’s expected
return.
46
Practice 1
A. 11%
B. 15%
C. 19%
Answer: A
5% = Expected return – 1.5*(Interest rate surprise) + 2*(GDP
surprise) + Error term
= Expected return – 1.5*(2%) + 2*(–3%) + 3%
So, the expected return = 5% + 3% + 6% -3% = 11%.
47
Summary
➢ Content: APT左边是预期回报
多因⼦模型左边都是真实回报
✓ Macroeconomic factor models;
✓ Fundamental factor models;
✓ Statistical models.
➢ Exam tips:
✓ 很重要的考点，主要考概念题，特别是
Macroeconomic factor models和Fundamental factor
model的解读与对比。
48
Multifactor Models: Application

Tasks:
➢ Explain sources of active risk and interpret tracking
risk and the information ratio;
➢ Describe uses of multifactor models and interpret
the output of analyses based on multifactor
models.
49
Applications of multifactor models
➢ Performance attribution 业绩归因
✓Return attribution
✓Risk attribution
➢ Portfolio construction
➢ Strategic portfolio decisions
50
Return attribution 回报归因
➢ Multifactor models can be used to attribute portfolio return

为什么能够多挣钱
to different factors.
✓Active return = RP - RB
active return
• RP = portfolio return
• RB = benchmark return 沪深300指数的回报
51
Return attribution (Cont.)
承受的⻛险不⼀样个股挑选的好
✓Active return = Factor return + Security selection return
• Factor return: return earned by taking different factor
exposures compared to the benchmark;
k
Factor return =  (βP,i -βB,i ) ×λ i
i=1
βP,i : factor sensitivity for ith factor in the active portfolio;

βB,i : factor sensitivity for ith factor in the benchmark portfolio;
λ i : factor risk premium for factor i.
• Security selection return: earned by allocating different
weights to securities compared to the benchmark.
52
Risk attribution
➢ Active risk: the standard deviation of active returns.
R_A1,R_A2,… 求标准差
Active risk = σ(Rp – RB)
✓ Also refers to tracking risk, or tracking error.
➢ Information ratio (IR): standardized average active return.
RP - RB
IR =
σ (RP -RB )
✓ A tool for evaluating mean active returns per unit of active
单位主动⻛险的主动回报
risk.
53
Risk attribution (Cont.) SST=RSS+SSE
➢ The active risk of a portfolio can be separated to two parts:

Active risk squared = Active factor risk + Active specific risk
✓ Active factor risk: the active risk resulting from the
portfolio’s different-from-benchmark factor exposures;
✓ Active specific risk: the active non-factor or residual risk
assumed by the manager, resulting from the portfolio’s
different-from-benchmark weighting for specific securities.
• Also refers to security selection risk.
54
Example:
➢ Decomposition of active risk squared:
组合D是
被动投资
55
Example (Cont.):
➢ Decomposition of active risk squared (re-stated by %):
直接开⽅
组合B在
A，B个股选择带来⻛险⼤
industry
上基本中
C的分散化做的更好
性
从右往左看图
56
Example (Cont.):
➢ Conclusions:
✓ Portfolio A assumed substantial active industry risk,
whereas Portfolio B was approximately industry neutral
relative to the benchmark.
✓ By contrast, Portfolio B had higher active bets on the style
factors representing company and share characteristics.
57
Example (Cont.):
✓ Portfolio C assumed more active factor risk related to the
style factors, but B assumed more active specific risk. It is
also possible to infer from the greater level of B’s active
specific risk that B is somewhat less diversified than C.
✓ Portfolio D appears to be a passively managed portfolio,
judging by its negligible level of active risk. Its risk
exposures very closely match the benchmark.
58
Portfolio construction
➢ Multifactor models permit the portfolio manager to make
focused bets or to control portfolio risk relative to the
集中押宝，控制beta
benchmark’s risk.
✓Passive management: selecting a sample of securities from
跟踪⼀个指数
the index, replicating an index fund’s factor exposures, and
抽样，复制⻛险敞⼝
mirroring those of the index tracked;
✓Active management: predicting alpha or relative return, or
establish a specific desired risk profile for a portfolio.
59
Example:
➢ The following table shows the risk factors and the factor
sensitivities for the portfolios:
数字是beta
寻找纯因⼦组合
60
Example (Cont.):
➢ A portfolio manager wants to place a bet that real business
activity will increase. Which portfolio is most appropriate
and what position should be chosen?
Answer: B
➢ Portfolio B is the factor portfolio for business cycle risk
because it has a sensitivity of 1 to business cycle risk and a
sensitivity of 0 to all other risk factors. The manager should
take a long position in Portfolio B.
61
Example (Cont.):
➢ A portfolio manager wants to hedge an existing positive
(long) exposure to time horizon risk. Which portfolio is most
appropriate and what position should be chosen?
Answer: D
➢ Portfolio D is the factor portfolio for time horizon risk 只在⻛险因⼦上有敞⼝
because it has a sensitivity of 1 to time horizon risk and a

sensitivity of 0 to all other risk factors. The manager should
take a short position in Portfolio D.
62
Strategic portfolio decisions
➢ By introducing more risk factors, multifactor models enable
investor gain from taking more/less exposures to risks that
they have a comparative advantage/disadvantage; 调整beta
➢ By considering multiple sources of systematic risk,

multifactor models allow investors to achieve better-
更好的分散化
diversified and possibly more efficient portfolios.
63
Summary
➢ Importance: ☆
➢ Content:
✓ Applications of multifactor models:
• Return attribution and risk attribution;
• Portfolio construction;
• Strategic portfolio decisions.
➢ Exam tips:
64
Measuring and Managing Market Risk
Value at Risk (VaR) ⻛险价值

在险价值
Tasks:
➢ Compare the parametric, historical simulation, and
Monte Carlo simulation methods for estimating
VaR;
➢ Describe advantages, limitations and extension of
VaR.
65
Value at Risk (VaR)
Value at Risk (VaR)
➢ The minimum loss that would be expected a certain
percentage of the time over a certain period of time given
the assumed market conditions.
➢ Example: the 5% VaR of a portfolio is €2.2 million over a
100天就有5天 5%的可能性⼀天的损失⼤于2.2
one-day period. 95%的可能性⼤于
✓Interpretation: the minimum loss that would be expected

to occur over one day 5% of the time is $2.2 million.
⼀天⾥⾯有5%的时间最⼩损失是
66
Value at Risk
Methods to estimate VaR
➢ Parametric (variance–covariance) method
➢ Historical simulation method
➢ Monte Carlo simulation method
67
Value at Risk 两个ptf，A，B
回报μA，μB，整个组合回报就是加权平均
标准差σA，σB，整个组合就是
Parametric method 参数法
相关性ρAB
➢ Assumes that the return distributions for the risk factors in

the portfolio are normal;
➢ Uses the expected return and standard deviation of return
for each risk factor to estimate the VaR.
✓VaR(X%) = E(R) - ZX%×σ
考点
✓VaR(X%)dollar = [E(R) - ZX%×σ]×asset value
shortfall risk
68
Value at Risk
Parametric method (Cont.)
➢ Advantage:
✓Simple and straightforward.
➢ Disadvantage:
✓Its estimates will only be as good as the estimate of the
parameter (mean, variance, covariance). 参数估计和是否符合正态分布
✓The usefulness is limited when normality assumption is not

reasonable.
有期权就不对称，就
• E.g.: when the investment portfolio contains options.
不是正态分布
69
Value at Risk
Historical simulation method 历史模拟法
➢ Re-prices the current portfolio given the returns that

回溯期限
occurred on each day of the historical lookback period and
sort the results from largest loss to greatest gain.
➢ Example: you have accumulated 100 daily returns for your
$100M portfolio. After ranking the returns from highest to
lowest, you identify the lowest six returns: -0.0011, -0.0019,
-0.0025, -0.0034, -0.0096, -0.0101. 从后往前数第五个⼀共100个数据，第五个⼤损失
✓VaRdaily(5%) = 0.19% or $190,000

70
Value at Risk
Historical simulation method (Cont.)
➢ Advantage:
✓No normality or any other distribution assumption; 不需要假设正态分布
• Available to estimate the VaR for portfolio with options.

✓Based on what actually happened, so it cannot be
dismissed as introducing impossible outcomes.
71
Value at Risk
Historical simulation method (Cont.)
➢ Disadvantage:
✓No certainty that a historical event will re-occur, or that it
would occur in the same manner or with the same
likelihood as represented by the historical data.
• If data in the lookback period is more volatile, VaR will be
VaR就偏⾼
over-estimate;
• If data in the lookback period is less volatile, VaR will be
under-estimate.
72
Value at Risk
Value at Risk (Cont.)
➢ Both parametric and historical simulation methods has a
shortage that all observations are weighted equally. 数据权重都相同了
✓Improvement: giving more weight to more recent

observations and less weight to more distant observations.
73
Value at Risk
Monte Carlo simulation method (Cont.) 蒙特卡洛模拟
➢ The user develops his own assumptions about the statistical

对每⼀个risk factor做⾃⼰的假设
characteristics of the distribution and uses those
characteristics to generate random outcomes that represent
⽣成随机output
hypothetical returns to a portfolio.
74
Value at Risk
Monte Carlo simulation method (Cont.)
可以考虑到所有的分布
➢ Advantage: 功能强⼤
✓It can accommodate virtually any distribution, and can

accurately incorporating the effects of option positions or
bond positions with embedded options.
➢ Disadvantage:
✓Complex 复杂
✓Assumptions of inputs are critical for accuracy of estimates. 假设是否精确
75
Value at Risk
Advantages of VaR VaR指标的优缺点
➢ Simple concept
➢ Easily communicated concept
➢ Provides a basis for risk comparison
➢ Facilitates capital allocation decisions
➢ Can be used for performance evaluation risk basis
➢ Reliability can be verified 可以回测
➢ Widely accepted by regulators
76
Value at Risk
Limitations of VaR
➢ Subjectivity 主观性
➢ Underestimating the frequency of extreme events 实际极端情况发⽣概率⽐正态分布要⼤
➢ Failure to take into account liquidity 没有考虑流动性
➢ Sensitivity to correlation risk 对相关系数敏感，相关系数会变
➢ Vulnerability to trending or volatility regimes 波动性如果变化
➢ Misunderstanding the meaning of VaR

➢ Oversimplification
➢ Disregard of right-tail events 只考虑loss，没有考虑右尾
77
Value at Risk
Extensions of VaR 如果损失⼤于5%，到底会到多⼤
➢ Conditional VaR (CVaR): the average loss that would be

取了很多点求平均值
incurred if the VaR cutoff is exceeded.
✓Also named expected tail loss or expected shortfall.
➢ Incremental VaR (IVaR): the difference in VaR between the
加仓或者减仓VaR的变化
“before” and “after” VaR if a position size is changed relative

to the remaining positions.
78
Value at Risk
Extensions of VaR (Cont.)
➢ Marginal VaR (MVaR): the change in VaR for a small change 组合⾥某⼀个资产weight的变化导致
VaR变化
in a given portfolio holding.
✓ Strictly, MVaR is the slope of VaR-weight curve for a
斜率
security in the portfolio;
✓ Approximately, MVaR is the change in VaR for a $1 or 1%
change in the position for a security in the portfolio.
79
Value at Risk
Extensions of VaR (Cont.)
➢ Relative VaR: a measure of the degree to which the
performance of a given investment portfolio might deviate
from its benchmark. 数据变成benchmark
✓Also named ex ante tracking error.
80
Practice 1
Given a VaR of $12.5 million at 5% for one month, which of the
following statements is correct?
A. There is a 5% chance of losing $12.5 million over one month.
B. There is a 95% chance that the expected loss over the next
不是expected 那是均值
month is less than $12.5 million. 应该是minimum
C. The minimum loss that would be expected to occur over

one month 5% of the time is $12.5 million
81
Practice 1
Answer: C
It is the only statement that accurately expresses the VaR.
A is incorrect because VaR does not give the likelihood of
losing a specific amount. B is incorrect because VaR is not an
expected loss—it is a minimum loss.
82
Summary
➢ Content:
✓ Definition and interpretation of VaR;
✓ Method to estimate VaR:
• Parametric method; historical simulation method,
Monte Carlo simulation method.
✓ Advantages, limitations, and extensions of VaR.
➢ Exam tips:
✓ 常考点1：VaR的定义和解读，概念题；
✓ 常考点2：估计VaR值的方法对比，概念题。
83
Measuring and Managing Market Risk
Sensitivity and Scenario Risk Measures
Tasks:
➢ Describe sensitivity risk measures and scenario risk
measures;
➢ Describe advantages and limitations of sensitivity
risk measures and scenario risk measures;
➢ Explain constraints used in managing market risks.
84
Sensitivity risk measures 敏感度⻛险度量
➢ Examine how portfolio value responds to a small change in a

某⼀个⻛险因⼦很⼩的变化，组合价值变化
single risk factor.
Scenario risk measures

➢ Provides an estimate of the impact on portfolio value of a
set of significant change in multiple risk factors.
在特定情境下，很多⻛险因⼦在⼤变化下，组合价值怎么变
85
Sensitivity risk measures
➢ Equity exposure measures: Beta (β) 对市场波动回报的敏感度
CAPM: E(Ri) = RF + βi[E(RM) – RF]

✓Assets with betas more (less) than 1 are considered more
(less) volatile than the market as a whole.
86
Sensitivity risk measures (Cont.)
➢ Fixed-income exposure measures: duration and convexity.
✓Given a bond priced at P and yield change of ΔY, the rate of
价格变化的百分⽐=久期
return or percentage price change for the bond is 债券价格对收益率的敏感度，凸度
approximately given as follows:

ΔP 1
= -Duration  ΔY +  Convexity  ( ΔY )
2
P 2
87
➢ Options risk measures: Delta (Δ), Gamma (Γ), Vega (Λ), etc.
✓Delta: sensitivity of option price against the underlying
⼀阶
asset price;
✓Gamma: sensitivity of option delta against the underlying
asset price; ⼆阶
✓Vega: sensitivity of option price against underlying asset

price volatility.
1
 Gamma  ( ΔS ) + Vega  ΔV
2
ΔPcall = Delta  ΔS +
针对标 2
针对波动性 88
的价格
➢ Advantage: can inform a portfolio manager about a
portfolio’s exposure to various risk factors to facilitate risk
可以了解⻛险敞⼝
management.
✓If too much/less risk exposure to a risk factor, the manager
can modify the exposure accordingly.
89
➢ Limitations:
✓Can only be used to estimate the effects of small changes
in risk factors. 只能评估⼩变化
• Even combination of first-order and second-order effects

only provide approximation for large changes in risk
仍然是近似评估
factors.
✓Two portfolios with same sensitivity risk measures can
have different risk due to different volatility of risk factors.
• E.g.: two fixed income portfolios with same duration but
different yield volatilities. 哪怕是久期相同，但是波动率不同
90
Scenario risk measures
➢ Historical scenario approach: use a set of changes in risk
factors that have actually occurred in the past.
✓E.g.: change of risk factors in financial crisis. ⾦融危机下组合会怎么变
➢ Hypothetical scenario approach: use a set of hypothetical

假想的
change in risk factors, not just those that have happened in
the past.
✓Stress tests: examine the impact on portfolio of a scenario
压⼒测试
of extreme changes of risk factors.
91
Scenario risk measures (Cont.)
➢ Scenario analysis can be regarded as the final step in the risk
先做敏感度，再做情景分析
management process, after performing sensitivity analysis.
✓Scenario analysis can provide additional information on a
portfolio's vulnerability to changes of risk factors or the
correlations between risk factors.
✓Stress tests can determine the size of change on a certain
到某个值就抗不下去
了，寻找临界点
risk factor that could compromise the sustainability of the
investment.
92
➢ Advantage:
聚焦极端情况
✓Scenario risk measures focus on extreme outcomes, but
not bound by either recent historical events or
assumptions about parameters or probability distributions.
✓Scenario analysis is an open-ended exercise that could look
at positive or negative events, although its most common 也可以分析好的情景
application is to assess the negative outcomes.

• Stress tests intentionally focus on extreme negative
聚焦极端负⾯情况
events.
93
➢ Limitations:
✓ Historical scenarios are not going to happen in exactly the
历史不⼀定会再发⽣
same way again; and hypothetical scenarios may
incorrectly specify how assets will co-move.
✓Hypothetical scenarios are difficult to create and maintain.
• It is very difficult to know how to establish the
appropriate limits on a scenario analysis or stress test.
94
➢ Limitations:
✓The more extreme the scenario, and the farther from
超出历史经验
historical experience, the less likely it is to be found
believable by management of a company or a portfolio.
95
VaR vs. Sensitivity vs. Scenario risk measures
➢ VaR provides a probability of loss, and is a downside risk
提供了损失的概率，只管downside
measures;
➢ Sensitivity risk measures provide estimates of relative
exposure to different risk factors but no estimate of
往上往下都是这个敏感度
probabilities, and are not downside risk measures;
➢ Scenario risk measures provide estimates of effect to
simultaneous changes of multiple risk factors, but no
estimate of probability.
96
VaR vs. Sensitivity vs. Scenario risk measures
➢ They are best used in combination because no one measure
has the answer, but all provide valuable information that
can help risk managers understand the portfolio and avoid
unwanted outcomes and surprises.
97
Choices of risk measures
➢ The choices of risk measures by an organization is mainly
decided by the types of risks it faces, the regulation that
govern it, and whether it uses leverage.
✓Banks
主要是由他们⾯临的⻛险决定的
✓Asset managers
✓Pension funds
✓insurers
98
Banks
➢ Banks need to balance a number of competing aspects of
risk to manage their business and meet the expectations of
equity investors/analysts, bond investors, credit rating
agencies, depositors, and regulatory entities.
➢ The typical risk measures used by banks:
✓Sensitivity measures; 基本的都要有
✓Scenario analysis and stress tests;

✓Leverage risk measures;
✓VaR . trading security
99
Asset managers
业绩时基于某个benchmark
➢ Traditional asset managers: focus on relative risk measures.
✓Position limits, sensitivity measures, scenario analysis,
active share, VaR.
绝对收益
➢ Hedge funds managers: focus on absolute return.
✓Sensitivity measures, leverage, VaR, scenario analysis,
drawdown.
100
Pension funds 养⽼⾦ A-L-M 资产要⼤于负债
➢ The risk management goal for defined benefit pension funds

is to be sufficiently funded to make future payments to
pensioners.
➢ The typical risk measures used by pension funds:
✓Sensitivity measures, surplus at risk.
敏感度，资产和负债的敏感度要相似
101
Risk measures and capital allocation ⻛险的度量和资本配置
➢ Capital allocation: the practice of allocating capital to fund

its various business units or activities, ensure sufficient
resource in areas in which it expects the greatest reward and
has the greatest expertise. 充分利⽤资源赚取更⼤的回报 VaR
➢ Risk measures must be introduced when limit the overall

risk and allocate risk across the activities or business units by
分配到每⼀个单元
risk budgeting.
102
Constraints in market risk management
整个公司的⻛险appetite
➢ Risk budgeting: determining the overall risk appetite, and
then allocated to sub-activities or business units.
➢ Position limits: the maximum currency amount or
percentage of portfolio value allowed for specific asset or
可以直接限制头⼨
asset class.
➢ Scenario limits: limits on expected loss for a given scenario. 在特定情境下损失不能超过多少
➢ Stop-loss limits: require an investment position to be

如果loss超过某⼀个值
reduced or closed out when losses exceed a given amount
over a specified time period.
103
Summary
➢ Importance: ☆
➢ Content:
✓ Sensitivity risk measures vs. scenario risk measures;
✓ Advantages and limitations of the risk measures;
✓ Choice of risk measures;
✓ Constraints in market risk management.
➢ Exam tips:
104
Economics and Investment Markets
Economics and Investment Markets (1)
Tasks:
➢ Explain the notion that to affect market values;
➢ Explain the relationship between the long-term ⻓期增⻓率，短期利率
growth rate and the real short-term interest rates;

➢ Explain how business cycle affects policy rates and
the slope of the term structure of interest rates.
105
Present value model (DCF model) 为了获得将来的现⾦流
➢ The value of any asset can be calculated as the present value

of its expected cash flows. 买资产⽬的是为了赚钱
n
CFi
P= i
i=1 (1+r)
✓r: the discount rate

r = R + π + RP
• R: real risk-free rate; ⽆⻛险利率
• π: expected inflation; 通胀
• RP: risk premium. ⻛险溢价

106
Present value model (Cont.)
➢ If a economic factor affects an asset’s market value, it must
affect one or more of the following: 影响分⼦或者分⺟
✓The timing and/or amount of the expected cash flows;

✓One or more of the discount rate components: default-free
interest rate, expected inflation, and risk premiums.
• Risk premiums are not only determined by the risk
magnitude, but also the investor’s perception of risk.
107
资产价值由预期决定的
Role of expectation
➢ Asset values depend on the expectation of future cash flows,
which is based on current information that may be relevant
to forecasting future cash flows.
➢ Asset values may need to be adjusted due to the fact that
the unanticipated information arise, as the current asset
values only reflect the expected information. 价内信息
价外信息
108
Inter-temporal rate of substitution (ITRS) 跨期替代率
➢ The ratio of the marginal utility of consuming 1 unit in the

未来的边际效⽤/今天的边际效⽤
future (Ut) to the marginal utility of consuming 1 unit today
(U0), denoted by mt (Ut/U0).
✓mt is always less than 1 because investor always prefer 投资者会偏向现在就消费
current consumption over future consumption (U0 > Ut).
109
Real risk free rate 真实⽆⻛险利率
➢ Assuming a zero coupon, inflation-indexed, risk-free bond

with par value of $1, its price should be:
P0 = mt
➢ So, the real risk-free rate (unannualized) is:
赚到的钱 / 投进去的钱
1-P0 1
R= = -1
P0 mt
✓The higher the U0 relative to Ut, the lower the mt, the
higher the R. 现在的U0相对于Ut越⾼，mt越⼩， R越⼤
110
GDP growth vs. real risk free rate
➢ Real risk free rate is positively related to GDP growth rate; 正相关
✓Higher GDP growth rate → higher future income → lower

财富边际效⽤递减
Ut relative to U0 (diminishing marginal utility of wealth) → 将来带来的效益低
lower mt → higher real risk free rate.

⾼GDP增⻓，⽆⻛险利率就⾼
• E.g.: China, India.
➢ Real risk free rate is also positively with the volatility of the
真实⻛险利率和波动性也正相关，像⻛险溢价
growth rate due to higher “risk premium”.
111
Inflation vs. nominal risk-free interest rate (r)
➢ In terms of nominal risk-free interest rate, the effects of
inflation should be considered:
✓Premium for expected inflation (π); 预期通胀
✓Risk premium for uncertainty about actual inflation (θ).

➢ The uncertainty for short-term inflation is negligible:
短期θ可以忽略
rshort-term = R + π
➢ For long term securities, risk premium for uncertainty of
inflation need to be included:
rlong-term = R + π + θ
112
Inflation vs. nominal risk-free interest rate (Cont.)
➢ Break-even inflation rate (BEI): the yield difference between 损益平衡通胀率
a non-inflation-indexed risk-free bond and the inflation-

indexed risk-free bond with the same maturity; 和通胀是否挂钩
✓The BEI captures the effects of inflation on yield:

BEI = π + θ
113
Business cycle vs. policy rate 政策利率 Fed rate
⼀般是短期利率
➢ Central banks can mitigate the business cycle by adjusting
the policy rate, the Taylor Rule addresses the central bank’s
policy rate to business cycle.
r = Rn + π + 0.5(π – π*) + 0.5(Y-Y*)
✓r: central bank policy rate implied by the Taylor Rule;
✓Rn: neutral real policy interest rate;
✓π: current inflation rate; π*: target inflation rate; 通胀太⾼就要加息
✓Y: log of actual real GDP; Y*: log of target real GDP. GDP增⻓过快，过热，
需要加息
114
Economics and Investment Markets (1) Yield
Business cycle vs. slope of yield curve

➢ During the recession, the slope of yield curve will increase;
✓Central bank tends to lower the policy rate; 短期会下降
✓Investors expect higher future GDP growth and higher maturity
long-term rates as economic growth recovers. ⻓期会上升
➢ During the recession, short-term bonds generally perform

better than long-term bonds.
115
Business cycle vs. slope of yield curve (Cont.)
➢ Later stages of expansion often have negatively sloped
(inverted) yield curve.
✓Typically, high inflation and high short-term interest rate;
✓Low long-term rates due to expectations of decreasing
inflation and GDP growth.
➢ During the expansion, long-term bonds generally perform
better than short-term bonds.
116
Summary
➢ Importance: ☆
➢ Content:
✓ Market valuation and discount rate;
✓ Inter-temporal rate of substitution and real risk free rate;
✓ GDP growth vs. real risk free rate;
✓ Inflation vs. nominal risk-free interest rate;
✓ Business cycle vs. policy rate.
✓ Business cycle vs. slope of yield curve;
➢ Exam tips:
117
Economics and Investment Markets
Tasks:
➢ Describe the factors that affect yield spreads,
including credit spread. 三⼤类资产和信⽤利差
118
Business cycle vs. credit spreads
➢ Credit spreads: the yield difference between a credit risky
bond and a default-free bond with same maturity.
Yield for credit risky bond = R + π + θ + γ
✓γ: credit spread, or risk premium for credit risk.
119
债券
Business cycle vs. credit spreads (Cont.) 经济周期影响
➢ Credit spreads tends to narrow in times of robust economic

经济好，收紧
growth, when defaults are less common.
✓Credit risky (lower-rated) bonds will perform better than
价格上升
default-free (higher-rated) bonds.
➢ Credit spreads tend to rise in times of economic weakness,
as the probability of default rises.
✓Default-free (higher-rated) bonds will perform better than
Spead上升，价格下跌，⽆⻛险表现好
credit risky (lower-rated) bonds.
120
Characteristics of market vs. credit quality
➢ During economic downturn, the spread on the consumer
cyclical sector rises more dramatically than it do for 周期性板块会上升快
corporate bonds in the consumer non-cyclical sector.

➢ Issuers that are profitable, have low debt interest payments,
and that are not heavily reliant on debt financing will tend to
have a high credit rating. 好公司，信⽤评级会更⾼
121
Business cycle vs. earning growth expectations 股票
➢ Booming economy tends to lead to a rise of the earning

growth expectations; recession tends to lead to a decline of
the earning growth expectations.
➢ Earning growth rate tend to be relatively stable throughout
the business cycle for defensive or non-cyclical industries.
⾮周期型⾏业和防守型，不怎么受影响
122
Business cycle vs. equity risk premium ⻛险溢价看
➢ The equity risk premium is typically higher than credit risk 股票⽐债券⾼
premium because equity is more risky than debt.

Yield for equity = R + π + θ + λ
✓λ: equity risk premium (λ > γ).
➢ Consumption-hedging property: providing higher payoff
消费对冲属性
和市场相关系数为负，分散化好
during economic downturns.
✓Assets with more consumption-hedging property will be
估值⾼，收益低，溢价低
more highly valued and have less risk premium.
123
Business cycle vs. equity risk premium (Cont.)
➢ Investors will demand a higher equity risk premium because
the consumption-hedging properties of equities are poor. λ会很⾼
✓Equities tend not to pay off in bad times.
124
Business cycle vs. valuation multiples 倍数 P/E P/B
➢ Valuation multiples are positively related to expected

earning growth rate, and negatively related to required rate
of return.
Required rate of return = R + π + θ + λ
➢ Valuation multiples tend to rise during periods of economic
expansion and fall during recessions.
125
Business cycle vs. style strategy 股票投资策略
➢ Value strategy vs. growth strategy

✓A value strategy performs well during recession, while
经济情况好，成⻓股好
growth strategy performs well during expansion. 经济情况差，价值股好
➢ Capitalization
✓Small-cap stocks tend to underperform large-cap stocks in
difficult economic conditions. ⼩盘股表现不如⼤盘股好
• Less diversified business(earning streams);

• More difficulties in raising funds; 融资困难
• Higher risk premium demanded by investors relative to

large-cap stock due to higher volatility. 波动率更⼤
126
Business cycle vs. rotation strategies
➢ During economic expansion: I经济情况好
✓Rotating into growth stocks when they are expected to

成⻓股
outperform value stocks;
✓Rotating into small-cap stocks when they are expected to
outperform large-cap stocks; ⼩盘股
✓Rotating into cyclical stocks when they are expected to

outperform countercyclical stocks. 周期股
127
Business cycle vs. commercial real estate investment 商业地产投资
➢ Commercial real estate investment have the following

characteristics:
租约现⾦流像债券
✓Bond-like characteristics: steady rental income stream, like
cash flows of bonds;
✓Equity-like characteristics: uncertain value of the property 租约到期，像股票
at the end of the lease term;

✓Illiquidity.
➢ Yield for commercial real estate = R + π + θ + λ + φ
✓φ: risk premium for illiquidity. 流动性不好的⻛险溢价
128
Business cycle vs. commercial real estate investment
➢ Investors will demand a high risk premium for commercial
real estate investment due to weak consumption-hedging
properties.
✓Commercial property value tend to decline in bad times. 经济不好，价值会下跌
129
Summary
➢ Importance: ☆
➢ Content:
✓ Business cycle vs. credit spreads;
✓ Business cycle vs. equity risk premium;
✓ Business cycle vs. investment style;
商业不动产
✓ Business cycle vs. commercial real estate investment.
➢ Exam tips:
130
Analysis of Active Portfolio Management
主动管理
Measures of Value Added by Active Management

⽐benchmark⾼出的
Tasks:
➢ Describe how value added by active management
is measured;
➢ Calculate and interpret the information ratio and
contrast it to the Sharpe ratio.
131
Measures of value added
➢ Active return 绝对的计量⽅式
➢ Information ratio 相对的⻛险调整之后的
132
Active return (RA)
N N
➢ RA = RP - RB =  Δw
i=1
i Ri =  Δw
i=1
i R A,i
✓RP: return of actively managed portfolio;

✓RB: return of benchmark portfolio;
✓Ri: return of security i;
✓Δwi = wP,i – wB,i, active weights;
• Sum of active weights for all securities equal to zero; 总权重加起来为0，因为总
weight加起来为100%
• Over-weighted: positive; under-weighted: negative.
✓RA,i = Ri – RB, active security return.
133
Active return (Cont.)
➢ Ex-anti active return: based on expected return; 事前基于预期
➢ Ex-post active return: based on realized return.

事后基于实现的
134
Active return (Cont.)
⼤的资产类别不⼀样
➢ For portfolio with multiple asset classes, active return can
be decomposed to two sources:
✓Active asset allocation: active weights of asset classes
against benchmark portfolio;
某⼀⽀证券配的不⼀样
✓Security selection: active weights of security within asset
classes.
M M
RA =  Δw R
j=1
j B,j + w
j=1
P,j R A,j
• RA,j: active return of asset class j.

135
Information ratio (IR)
相对与benchmark的⻛险调整了⼀下
➢ Information ratio measure the relative risk-adjusted value
added, and calculated as mean active returns per unit of
active risk.
Active return R Active R p - R B
IR = = = 单位主动⻛险对应的主动汇报
Active risk σ (R Active ) σ (R p - R B )
✓Ex-anti IR: based on expected return;
也可以分为两类，事前，事后
✓Ex-post IR: based on realized return.
• Can be used for performance evaluation: the higher, the
做业绩衡量，越⾼越好
better.
136
Information ratio (IR)
➢ Information ratio can be used for investment manager
selection: 选择基⾦经理
✓Manager with higher IR is preferred;

✓Higher IR also means higher SR.
➢ Information ratio can also be used to determine the
expected active return for a given target level of active risk.
E(RA) = IR * σA 如果已知IR，可以求预期active return
137
Information ratio vs. Sharp ratio 重点学习⽐较
➢ Review: Sharp ratio measure the total risk-adjusted value

added, and calculated as excess return per unit of risk.
Rp - Rf
SR = 单位⻛险对应的回报
σP
组合的SR就是斜率，加现⾦加
✓Sharp ratio is unaffected by the addition of cash or 杠杆就是沿着直线在变
leverage because excess return and risk will change

分⼦分⺟会成⽐例变化
proportionally.
138
Measures of Value Added by Active Management 分⼦分⺟都变化，约掉了
标准差也会
Sharp ratio vs. information ratio (Cont.) 增加2倍
Sharp ratio Information ratio

Relative risk-adjusted value
Total risk-adjusted value added
added
Unaffected by the addition of Affected by the addition of

cash or use of leverage cash or use of leverage
Affected by the aggressive Unaffected by the aggressive 现在IR>0，如果减杠杆，不

active weight active weight 断加现⾦，组合全是现⾦，
近似⽆⻛险回报，假设是
Two ratios would be equal if the benchmark is risk-free asset 5%，那IR<0
所以IR是改变了
139
Summary
➢ Importance: ☆☆
➢ Content:
✓ Active return and information ratio;
✓ Information ratio vs. Sharp ratio.
➢ Exam tips:
✓ 常考点：information ratio的定义与计算。
140
Analysis of Active Portfolio Management
The Fundamental Law
Tasks:
➢ State and interpret the fundamental law of active
portfolio management;
➢ Describe the practical strengths and limitations of
the fundamental law of active management.
141
The Fundamental Law
The fundamental law
分析框架
➢ The fundamental law is a framework for thinking about the
积极组合管理
potential value added through active portfolio management;
✓The most common use is the description and evaluation of
active management strategies.
➢ The law itself is a mathematical relationship that relates the
expected information ratio of an actively managed portfolio
to a few key parameters. 关于IR的数学关系
142
The Fundamental Law
The fundamental law (Cont.) 考试重要！
➢ The correlation triangle

希望RA为正，希望wi和RAi同为正，或者同为负，那么希望他们
预测active 相关性很强
return
拆分成两个相关系数，加了⼀个⻆
把想法转变成⾏动
如果=1，说明没有限制，想怎
么做怎么做预测的是不是准
公募基⾦只能买10%股票，之
类的限制
拆成了TC，IC两个相关系数，如
果都为正，那么附加值⽐较⾼
143
The Fundamental Law
The fundamental law (Cont.)
➢ Realized value added is the sum of the products of active
weights and realized active returns.
✓The value of this sum is ultimately a function of the
correlation coefficient between the active weights, Δwi,
and realized active returns, RA,i. (base of the triangle)
✓The correlation can be examined by the correlations on the
two vertical legs: 拆解成两个边
• Information coefficient (IC);

• Transfer coefficient (TC).
144
The Fundamental Law
Information coefficient (IC) 预测的和真正实现的相关系数
➢ Correlation between the forecasted active returns, μi, and

the realized active returns, RA,i;
R μ 
IC = Corr  A,i , i  标准化了
 σi σi 
✓A measure of manager’s forecasting accuracy (also called
signal quality). 预测的准确程度
• Ex-ante IC: must be positive; 事前为正，认为预测的是准的才会这么做
• Ex-post IC: either positive or negative.
145
The Fundamental Law
Transfer coefficient (TC) 预测出来的，是否可以多配或者少配
➢ Correlation between the forecasted active returns, μi, and

the active weights, Δwi;
μ
TC = Corr( i , Δw i σi ) = Corr ( Δw *i σi , Δw i σi )
σi
μ
Δw *i : = 2i , optimal active weights.
σi
146
The Fundamental Law
Transfer coefficient (Cont.)
➢ Measures the degree to which the investor’s forecasts are
translated into active weights, or the extent to which 是否有外在的限制
constraints reduce the expected value added of the

investor’s forecasting ability.
✓For portfolios without any constraints, TC equals to 1;
✓For portfolios with constraints, TC < 1. 有限制就会⼩于1
147
The Fundamental Law
Breadth (BR) 组合经理是否努⼒，做了多少决策
➢ The number of independent active decisions make per year

by the investor in constructing the portfolio. 每年做多少独⽴决策
两个决策没有⽤相关性很⾼的信息
✓“Independent” in this context means that the active
decisions should not be based on highly correlated (or
identical) information sets;
✓A measure of how much efforts the manager has put into.
➢ E.g.: if a manager takes active position in 10 securities per
month, then BR = 10*12 =120.
148
The Fundamental Law
The fundamental law (cont.) 每年必考！！
➢ For actively managed portfolios, the full fundamental law is

expressed in the following equation:
IR = (TC)(IC) BR E(R A ) = (TC)(IC) BRσ A
✓For portfolio without any constraints, TC = 1.

IR = (IC) BR E(R A ) = (IC) BRσ A
149
The Fundamental Law
Market timing 择时
➢ Market timing: simply bets on the market direction; 判断市场⽅向
只有两个选择，涨还是跌
✓Information coefficient for market timing:
IC = 2*(%correct) - 1
✓If the manager is correct 50% of the time, IC = 0. 如果完全瞎蒙，也有50%可能性，IC=0
✓This formula is also applicable to evaluate IC of active

sector rotation strategies.
150
The Fundamental Law
Evaluation of active management strategies
➢ Example: Consider two active management strategies:
individual stock selection with a benchmark composed of
100 securities, and industrial sector selection with a
benchmark of nine sectors. The active security returns are
defined as residuals in a risk model and thus are essentially
证券之间的决策是独⽴的
uncorrelated, and forecasts are independent from year to 每年做⼀次决策然后保持
year. Suppose the individual stock investor is expected to

exhibit skill as measured by an information coefficient of
0.05, while the industrial sector investor has a higher
information coefficient of 0.15. 151
The Fundamental Law
Evaluation of active management strategies (Cont.)
➢ 1. Conceptually, what is the breadth (i.e., number of
independent decisions per year) of each active management
strategy?
➢ Solution:
Given that the active asset returns in each strategy are
uncorrelated, and forecasts are independent from year to
个股选择
year, the breadth of the security selection strategy is BR = 100
板块选择
and the breadth of the sector selection strategy is BR = 9.
152
The Fundamental Law
➢ 2. Calculate the expected information ratio for each strategy,
under the assumption that each investor’s forecasts can be
TC=1
implemented without constraints.
IR= TC * IC * 根号下 BR IC题⽬给出了
➢ Solution:
The IC of the unconstrained security selection strategy is:
IR = (IC) BR = 0.05 100 = 0.5
The IC of the industrial sector selection strategy is:

IR = (IC) BR = 0.15 9 = 0.45
153
The Fundamental Law
➢ 3. Suppose the aggressiveness of each strategy is established
我们算出来IR
by a portfolio active risk target of 3.0% per year. What is the
expected active return to each strategy?
➢ Solution:
The expected active return to the unconstrained security
selection strategy is 0.5*3.0% = 1.50%, while the expected
active return of the industrial sector selection strategy is
0.45*3.0% = 1.35%.
154
The Fundamental Law
➢ 4. Under the more realistic assumption that the individual
security selection strategy is constrained to be long only and
has turnover limits, the transfer coefficient has a value of
0.60. What is constrained information ratio and expected
active return of the security selection strategy?
➢ Solution: 做法⼀样
The IC of the constrained security selection strategy is:

IR = (TC)(IC) BR = 0.6  0.05  100 = 0.3
The expected active return is 0.30*3.0% = 0.90%.

155
The Fundamental Law
Limitations of the fundamental law
➢ Limitation: poor input estimates lead to incorrect evaluation.
✓Uncertainty in ex-ante measurement of skill. IC 不准，取得都是好的数据
• IC is difficult to justify due to existence of the bias,

various asset segments, or different time periods.
✓Assumption of independence of active decisions.
BR假设决策之间独⽴
• The number of individual assets is not an adequate 很难做到
measure of strategy breadth (BR) when the active returns

between individual assets are correlated.
156
Summary
➢ Content:
✓ The fundamental law of active management:
• Information coefficient (IC);
• Transfer coefficient (TC);
• Breadth (BR).
✓ Limitations of the fundamental law.
➢ Exam tips:
✓ 常考点：the fundamental law的计算公式。
157
Algorithmic Trading and High-Frequency Trading
Tasks:
➢ Distinguish between execution algorithms and
high-frequency trading algorithms;
➢ Describe the application of algorithmic trading.
158
➢ Definition
➢ Categories
➢ Application
159
Definition
Definition of algorithmic trading
➢ Algorithmic trading is “using a computer to automate a
trading strategy.” 电脑交易策略
✓ In almost all cases, algorithms encode what traders can do

but with far higher speed.
速度更快
160
Categories
Categories of trading algorithms
➢ Execution algorithms: break down large orders and execute 把⼤单拆成⼩单
获得理想价格
执⾏算法
them over a period of time.
✓The goal is to minimize the impact that a large order has in
the market and to achieve a benchmarked price.
161
Categories
Categories of trading algorithms (Cont.)
➢ High-frequency trading (HFT) algorithms: refers to the ⾼频交易
tracking of high-frequency streams of data, making decisions

跟踪⾼频数据
based on patterns in those data that indicate possible

trading opportunities, and automatically placing and 寻求交易机会
managing orders to capitalize on those opportunities.

✓The goal is to earn profit.
162
Categories
Execution algorithms vs. HFT algorithms
➢ Execution algorithms
直接落在交易层⾯
✓How to trade;
✓The goal is to minimize market impact and try to ensure a
fair price.
➢ High-frequency trading (HFT) algorithms: 什么时候买卖，包含整个投资
✓How to trade; when to trade; and even what to trade.

✓The goal is to earn profit.
163
Categories
Types of execution algorithms
➢ Volume-weighted average price (VWAP):
✓Uses the historical trading volume distribution for a 根据历史的交易量，得出⼀天的交易
量分布，
particular security over the course of a day and divides the
order into slices, proportioned to this distribution. 拟合出分布，按分布成⽐例分散到⼀天
➢ Implementation shortfall:
✓Dynamically adjusts the schedule of the trade in response
to market conditions to minimize the difference between 最⼩化两个价格之
间的差别，做决定
the price at which the buy or sell decision was made and 和执⾏的价格之间
final execution price.

164
Categories
Types of execution algorithms (Cont.)
➢ Market participation algorithms:
✓Slices the order into segments intended to participate on a
pro-rata basis with volume throughout the course of the
execution period. 不再是⼀天，可以时间更⻓，还是按百分⽐分单⼦
165
Categories
Types of HFT algorithms 五⼤类
➢ Statistical arbitrage 第⼀类-分6⼩类
✓Pairs trading 成对交易
✓Index arbitrage 和板块所属的指数出现偏离
✓Basket trading 两个板块之间出现偏离
✓Spread trading 两个期货合约之间，maturity⼀样，但
✓Mean reversion 偏离均值
✓Delta neutral strategies 期权和标的定价
166
Categories
Types of HFT algorithms (Cont.)
➢ Liquidity aggregation and smart order routing 同样的资产在不同市场上交易
➢ Real-time pricing of instruments 实时的
➢ Trading on news 事件交易
➢ Genetic tuning 算法⾃⼰演化
167
Application
Trading algorithms for market fragmentation
➢ Market fragmentation refers to that the same security is
不同市场上相同证券
流动性不同
traded in multiple financial markets, this phenomenon
creates the potential for price and liquidity disparities across
different markets.
➢ Algorithmic methods can be used to address this issue, such
as liquidity aggregators and smart order routing.
168
Application
Trading algorithms for market fragmentation (Cont.)
➢ Liquidity aggregators offer a global-ordered view of liquidity
把所有市场流动性加总之后考虑
for each instrument regardless of which trading market

offers the liquidity.
➢ Smart order routing sends the orders to the relevant 还要考虑price
markets with the best combination of liquidity and price.
169
Application
Trading algorithms for risk management
➢ Real-time pre-trade risk firewall: 实时交易防⽕墙
✓Continuously calculate risk exposures on the trades to

ensure that risk limits are not exceeded. 如果⻛险敞⼝超出就不执⾏
✓ Trades exceeding limits are blocked.

➢ Back testing and market simulation:
回测＋市场模拟
✓Testing algorithms to see how they perform under various
scenarios, including historical data and invented scenarios.
170
Application
Trading algorithms for regulatory oversight 监管机构
➢ Regulators around the world have recognized that real-time

market monitoring and surveillance allows rapid action to
可以有更快的反应
prevent or minimize any market impact.
➢ Suspicious trading includes:
✓Insider trading 内部交易
✓Front running 让某⼈先跑
✓Painting the tape

✓Fictitious orders 虚假订单
✓Wash trading 左⼿倒右⼿
✓Trader collusion 171

Application
Positive impact of algorithmic trading
➢ Minimized market impact of large trades 最⼩化市场冲击
➢ Lower cost of execution 成本低
➢ Improved efficiency in certain markets

➢ More open and competitive trading markets 更开放
➢ Improved and more efficient trading venues 提⾼效率
172
Application
Negative impact of algorithmic trading
➢ Fear of an unfair advantage 不公平的交易优势
➢ Acceleration and accentuation of market movements

➢ Gaming the market 更加容易市场操控
➢ Increased risk profile

➢ Algorithms gone wild
➢ Potential for market denial-of-service-style attacks 利⽤电脑不断⽣成⼩单⼦，瘫痪
➢ Additional load on trading venues

监管更难
➢ Increased difficulty of policing the market
173
Summary
➢ Importance: ☆
➢ Content:
✓ Definition and categories of algorithmic trading;
✓ Applications of algorithmic trading;
✓ Positive and negative impact of algorithmic trading.
➢ Exam tips:
✓ 不是重要考点。
174

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Portfolio Management

✓ Reading 48: Measuring and Managing Market Risk (☆☆☆)

Portfolio Management Process and IPS

➢ Focus on the aggregate risk-return tradeoff of all the

✓Specifying the investment strategy and asset allocation;

✓Portfolio constructions and revisions.

➢ Considerations for strategic asset allocation;

✓Long-term wealth target ⻓期财富⽬标

✓Financial strength 其他不⾜

• Pre-tax return vs. after-tax return;

➢ Combine the IPS and capital market expectations to

✓Tactical asset allocation is allowed for temporary shifts.

often choose a strategic asset allocation that is relatively less

Arbitrage Pricing Theory (APT)

➢ Investor have homogeneous expectations or beliefs;

E(RP ) = RF + βP,1 (λ1 ) + βP,2 (λ 2 ) +...+ βP,k (λk )

• Also called factor risk premium.

➢ There are many assets, so investors can form well-diversified

➢ APT makes less assumptions than CAPM and does not

Multifactor Models: Introduction

➢ Macroeconomic factor model

➢ Fundamental factor model

✓Fk = the surprise in the factor k, k = 1, 2, ..., k;

✓bik = the sensitivity of the return on asset i to a surprise in

➢ Example: Ri = E(Ri) + bi1FINFL + bi2FGDP + εi

✓bik = standardized beta of attributes of the asset. 标准化的beta 300⽀股票，

(attributes) first and then estimate the factor returns

➢ These models make minimal assumptions but the factors are

Multifactor Models: Application

➢ Multifactor models can be used to attribute portfolio return

βP,i : factor sensitivity for ith factor in the active portfolio;

➢ The active risk of a portfolio can be separated to two parts:

because it has a sensitivity of 1 to time horizon risk and a

➢ By considering multiple sources of systematic risk,

Value at Risk (VaR) ⻛险价值

✓Interpretation: the minimum loss that would be expected

➢ Assumes that the return distributions for the risk factors in

✓The usefulness is limited when normality assumption is not

➢ Re-prices the current portfolio given the returns that

✓VaRdaily(5%) = 0.19% or $190,000

• Available to estimate the VaR for portfolio with options.

✓Improvement: giving more weight to more recent

➢ The user develops his own assumptions about the statistical

✓It can accommodate virtually any distribution, and can

✓Assumptions of inputs are critical for accuracy of estimates. 假设是否精确

➢ Reliability can be verified 可以回测

➢ Widely accepted by regulators

➢ Underestimating the frequency of extreme events 实际极端情况发⽣概率⽐正态分布要⼤

➢ Failure to take into account liquidity 没有考虑流动性

➢ Sensitivity to correlation risk 对相关系数敏感，相关系数会变

➢ Vulnerability to trending or volatility regimes 波动性如果变化

➢ Misunderstanding the meaning of VaR

➢ Conditional VaR (CVaR): the average loss that would be

“before” and “after” VaR if a position size is changed relative

✓Also named ex ante tracking error.

C. The minimum loss that would be expected to occur over

Sensitivity and Scenario Risk Measures

➢ Examine how portfolio value responds to a small change in a

Scenario risk measures

CAPM: E(Ri) = RF + βi[E(RM) – RF]

approximately given as follows:

✓Vega: sensitivity of option price against underlying asset