Skip to main content

Stock market risk assessment

HOW financial models define 'market' could be at the heart of how we define and understand risk. One is connected to the other. This is an idea of extreme importance for a society that not only gives undue weightage to financial risk but also relies on the return and growth that accompanies calculated risk-taking.

Though financial models have limited history, risk has traditionally been under judged and might never be completely understood. We can't pinpoint the source of the problem because markets evolve and what seemed risky yesterday is not that relevant today. Risk, like many other social parameters, is a moving target. Many risk parameters have moved from reverence to irreverence, as they failed to pass the test of time.

The bigger issue is how financial models understand and define 'market'. Specialised or non-specialised, markets have been defined as a benchmark, an index. Around 50 years before, one could not expect Jack Treynor to really ask this question when he was working on the Capital Asset Pricing Model (relationship between risk and expected return), whether there was a need for redefining 'market' itself. There was less computing power. We did not even have futures or the 1980s' risk management tools.

Decades passed and we never questioned whether our basic assumption of the market being a popular benchmark was correct. Behavioural finance was the first to challenge the status quo and break illusions built around beta and benchmarks. Framing errors were showcased among fund managers comparing their portfolio with benchmarks that showed enhanced performance. Then, of course, we had research suggesting the beta (relative performance) was dead. Researchers were still attacking the risk measure, not questioning the definition of market.

In a society integrating at a hectic pace, making universal collage films (Ridley Scott's Life in a Day), rewarding companies for tying up the world in a social network, why is our market beta connected to a local index? Why is 'market' for us not a mix of assets, a group of traded financial assets? Beta looks for sensitivity of an asset compared to the index, but is the index not part of a group of assets? Is the index itself not playing multiple roles of performance, underperformance and neutrality in a group of assets? How does the risk measure account for the changing sensitivity of the popular benchmark? Is the real market not a group of assets made of a few thousand assets? If an equity investor's portfolio group also had gold, won't he understand more about the performance of his equity portfolio in 10 years? Won't expanding the definition of market from a blue-chip composite index to a large broad group with cross-assets break the investor's illusion of gain and risk? Won't it give a more balanced approach to measuring how much more alpha (risk-adjusted return) was possible? Won't it help him see correlation in a different light? Won't this redefined market help us to a better risk measure?

Popular posts from this blog

Tata Mutual Fund

Being a part of the Tata group, the fund has the backing of a very trusted brand name with strong retail connect. While the current CEO has done an excellent job in leveraging the Tata brand name to AMC's advantage, it is ironic that this was just not capitalised on at the start. Incorporated in 1995, Tata Mutual Fund remained an 'also-ran' fund house for around eight years. Till March 2003, it had a little over Rs 1,000 crore in assets and 19 AMCs were ahead of it. But soon after that the equation changed. It was the fastest growing fund house in 2004 and 2005. During these two years, it aggressively launched six equity funds, two debt funds and one MIP. The fund house as of now stands at No. 8 in terms of asset size. This fund house has a lot to offer by way of choice. And, it also has a number of well performing schemes. Tata Pure Equity, Tata Equity PE and Tata Infrastructure are all good funds. It also has quite a few good debt funds. The funds of Tata AMC are known to...

UTI Mutual Fund

Even though only a few of UTI’s funds are great performers, this public sector fund house has many advantages that its rivals do not. It has a huge base of retail equity investors and a vast distribution network. As a business, it looks stronger than ever, especially in the aftermath of credit crunch. UTI is, by a large margin, the most profitable fund company in the country. This is not surprising, since managing equity funds is more profitable than debt. Its conservative approach and stable parentage is likely to make it look more attractive to investors in times to come. UTI’s big problem is the dragging performance that many of its equity funds suffer from. In recent times, the management has made a concerted effort to improve performance. However, these moves have coincided with a disastrous phase in the stock markets and that has made it impossible to judge whether the overhaul will eventually be a success. UTI’s top performers are a few index funds, some hybrid funds and its inf...

Salary planning Article

1. The salary (basic + DA) should be low. The rest should come by way of such allowances on which the employer pays FBT and you don't pay any tax thereon. 2. Interest paid on housing loan is deductible u/s 24 up to Rs 1.5 lakh (Rs 150,000) on self-occupied property and without any limit on a commercial or rented house. 3. The repayment of housing loan from specified sources is also deductible irrespective of whether the house is self-occupied or given on rent within the overall ceiling of Rs 1 lakh of Sec. 80C. 4. Where the accommodation provided to the employee is taken on lease by the employer, the perk value is the actual amount of lease rental or 20 per cent of the salary, whichever is lower. Understandably, if the house belongs to a family member who is at a low or nil tax zone the family benefits. Yes, the maximum benefit accrues when the rent is over 20 per cent of the salary. 5. A chauffeur driven motor car provided by the employer has no perk value. True, the company would...

8 Investing Strategy

The stock market ‘meltdown’ witnessed since the start of 2005 (notwithstanding the recent marginal recovery) has once again brought to the forefront an inherent weakness existent in our markets. This is the fact that FIIs, indisputably and almost entirely, dominate the Indian stock market sentiments and consequently the market movements. In this article, we make an attempt to list down a few points that would aid an investor in mitigating the risks and curtailing the losses during times of volatility as large investors (read FIIs) enter and exit stocks. Read on Manage greed/fear: This is an important point, which every investor must keep in mind owing to its great influencing ability in equity investment decisions. This point simply means that in a bull run - control the greed factor, which could entice you, the investor, to compromise with your investment principles. By this we mean that while an investor could get lured into investing in penny and small-cap stocks owing to their eye-...

Debt Funds - Check The Expiry Date

This time we give you an insight into something that most debt fund investors would be unaware of, the Average Portfolio Maturity. As we all know, debt funds invest in bonds and securities. These instruments mature over a certain period of time, which is called maturity. The maturity is the length of time till the principal amount is returned to the security-holder or bond-holder. A debt fund invests in a number of such instruments and each of these instruments would be having different maturity times. Hence, the fund calculates a weighted average maturity, which would give a fair idea of the fund's maturity period. For example, if a fund owns three bonds of 2-year (Rs 30,000), 3-year (Rs 10,000) and 5-year (Rs 20,000) maturities, its weighted average maturity would be 3.17 years. What is the big deal about average maturity then, you may ask. Well, knowing a fund's average maturity is important because it tells you how sensitive a fund is to the change in interest rates. It is ...
Related Posts Plugin for WordPress, Blogger...
Invest in Tax Saving Mutual Funds Download Any Applications
Transact Mutual Funds Online Invest Online
Buy Gold Mutual Funds Invest Now