Portfolio Risk Analysis

By Gregory Connor; Lisa Goldberg et al. | Go to book overview

14
Performance Measurement

The purpose of portfolio performance measurement is to monitor, motivate, and reward portfolio managers. Although not strictly part of portfolio risk analysis, performance measurement is closely linked to it, since one of its fundamental objectives is to assess the balance between portfolio risk and realized return. Also, performance measurement is intimately linked with manager compensation, and compensation has powerful effects on portfolio risk through its influence on manager behavior.

In this chapter we also consider the evaluation of portfolio riskforecasting accuracy. This is essentially performance evaluation applied to the risk-modeling system, and it is a topic that straddles traditional performance measurement and risk analysis.

Section 14.1 considers performance measurement when only returns (and not asset holdings) are available to the analyst. Section 14.2 considers the case in which asset holdings are also observed. Section 14.3 looks at the evaluation of portfolio volatility forecasts. Section 14.4 looks at the evaluation of value-at-risk forecasts. Section 14.5 does the same for density forecasts.


14.1 Return-Based Performance Measurement

In the first two sections of this chapter we focus on performance measurement of portfolio risk and return. In this section we consider the case in which the returns to the portfolio are known to the risk manager while the individual holdings are not. This is the relevant perspective in the case of hedge funds and other nontransparent investment vehicles.


14.1.1 The Jensen Model

A classic and influential performance-measurement framework is developed in Jensen (1968). Suppose that the capital asset pricing model

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Portfolio Risk Analysis
Table of contents

Table of contents

  • Title Page iii
  • Contents vii
  • Acknowledgments xi
  • Introduction xiii
  • Key Notation xix
  • 1: Measures of Risk and Return 1
  • 2: Unstructured Covariance Matrices 36
  • 3: Industry and Country Risk 61
  • 4: Statistical Factor Analysis 79
  • 5: The Macroeconomy and Portfolio Risk 101
  • 6: Security Characteristics and Pervasive Risk Factors 117
  • 7: Measuring and Hedging Foreign Exchange Risk 134
  • 8: Integrated Risk Models 155
  • 9: Dynamic Volatilities and Correlations 167
  • 10: Portfolio Return Distributions 191
  • 11: Credit Risk 212
  • 12: Transaction Costs and Liquidity Risk 241
  • 13: Alternative Asset Classes 271
  • 14: Performance Measurement 299
  • 15: Conclusion 319
  • References 323
  • Index 345
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