Portfolio Risk Measurement

chiang_mai

I have finalized my asset line up for next year so now my attention has turned to ways to measure my portfolio for risk. A number of posters recently have mentioned a desire to reduce risk but none of them have attempted to quantify what risk levels currently exist in their portfolio’s. Simply, if you can’t quantify your current risk level, it’s going to be hard to know when you’ve reduced it. For me, there is no simple way to measure the collective risk of 16 funds, it has to be done using a variety of methods. Here’s what I use:

Percentage of equities – currently 47%

Percentage of equities funds in Cautious and Moderate risk groups – 63%

Percentage of equities in a group higher than Moderate – 37%

Percentage of equities in a group higher than Adventurous – 11%

Percentage of equities in a group higher than Very Adventurous - None

Number of sectors represented by less than 5% of holdings – Two sectors

Highest single sector average value – 19% (no concentration risk)

Ratio of Large to Medium to Small companies – 68%/23%/9% (balanced)

Ratio of Value to Blend to Growth companies – 42%/37%/21% (lower volatility)

Average Volatility of all equities funds – 10% (Low)

Maximum Volatility of any one equities fund – 12 (followed by 10) (low)

Average MS risk of all funds – 50….top three are 89, 87 and 79,

Average (peak to trough) Drawdown of all funds – 3.8

Diversification by region:

US – 30%

UK – 18%

EU – 16%

Japan – 10%

Asia Dev – 8%

EM – 10%

China – 8%

Investment cash or near cash holdings – 3 years income (6 when bonds are included). Note, excludes other non-investment cash savings and income.

If anyone has any other interesting ways to quantify a portfolio for risk, I’ll be pleased to learn of it. Based on the factors above, I estimate my portfolio is between a Cautious and Moderate level of risk.

aroominyork

Is there such a thing as "higher than very adventurous"? Interesting that you separate China from other EMs. And do you mean 'Asia Dev' or 'Dev AP' - where do the Aussies and Kiwis go otherwise?

chiang_mai

aroominyork said:

Is there such a thing as "higher than very adventurous"? Interesting that you separate China from other EMs. And do you mean 'Asia Dev' or 'Dev AP' - where do the Aussies and Kiwis go otherwise?

The top category on the Morningstar scale is labelled "Extreme".....there are many funds in that category.

Yes, I have always separated out China and India from other EM's, because I think the sheer size of their economies warrant inidividual focus. There are lots of countries that fall under the EM umbrella but most global funds seem to allocate China separately, it's surprising how quickly those small percentages add up to a big number.

I mean Developed Asia, which I chose to exclude Japan, which I also treat separately. Australia is a proxy for Chinese currency and the Chinese economy so I include Australia as a part of China.

aroominyork

chiang_mai said:

aroominyork said:

Is there such a thing as "higher than very adventurous"? Interesting that you separate China from other EMs. And do you mean 'Asia Dev' or 'Dev AP' - where do the Aussies and Kiwis go otherwise?

I mean Developed Asia, which I chose to exclude Japan, which I also treat separately. Australia is a proxy for Chinese currency and the Chinese economy so I include Australia as a part of China.

My six regions are UK; Europe; N America; Japan; EM; Dev AP. Europe means developed Europe, and Dev AP means ex-Japan. That is neat enough for me and does not mean handing Australia over to China. Try posting your comment on an Australian forum and see the reaction! 

chiang_mai

aroominyork said:

chiang_mai said:

aroominyork said:

Is there such a thing as "higher than very adventurous"? Interesting that you separate China from other EMs. And do you mean 'Asia Dev' or 'Dev AP' - where do the Aussies and Kiwis go otherwise?

I mean Developed Asia, which I chose to exclude Japan, which I also treat separately. Australia is a proxy for Chinese currency and the Chinese economy so I include Australia as a part of China.

My six regions are UK; Europe; N America; Japan; EM; Dev AP. Europe means developed Europe, and Dev AP means ex-Japan. That is neat enough for me and does not mean handing Australia over to China. Try posting your comment on an Australian forum and see the reaction! 

Each to their own of course. EM is a huge and diverse mix of countries, which I don't think can sensibly be treated as a single unit, for that reason I think it's dangerous to rely on a single EM fund and hope that it meets all needs. Australia relies on China for over 40% of its exports hence the performance of the Aussie Dollar  and RMB are tied very closely. Other countries are USD dependent but trying to compare the economies of the likes of China and Thailand, for example, is almost impossible. It doesn't bother me how investors chose to divide their geographies, as long as they do so in a way they are comfortable with and understand.  

MaxiRobriguez

chiang_mai said:

If anyone has any other interesting ways to quantify a portfolio for risk, I’ll be pleased to learn of it. 

You can look under the hood at the holdings and how certain triggers can impact the wider portfolio. 

For example, your US fund will be dominated by the magnificent 7 tech stocks. If media narrative is right and there's a big sell off coming in that space that will bleed into other markets: Your Asia Developed #1 underlying holding is likely TSCM which will get whacked in the same proportion as the tech sell off. The UK fund will suffer given the impact on global banking... etc. That's following some fairly basic logic, without considering the "when America sneezes the rest of the world catches a cold" type response where everything sells off just because the US markets are. 

Despite that, your portfolio probably is cautious based on the equity proportion only being 47%. You just need to work out what the impact on the other 53% of your portfolio would be in certain equity trigger events. Obviously cash and cash-like investments wouldn't change much but if you have exposure to long duration bonds or gold you need to consider what they're doing for you in your portfolio. 

Linton

I manage the risk in my 100% equity growth portfolio by:
a) monitoring  and adjusting the value/blend/growth %s as given by Morningstar 
b) keeping tech to 20% to or below
c) keeping individual mag 7 stocks to below 1.5-2% of the whole portfolio.
d) diversifying widely and keeping US< 40%.

i use a spreadsheet to combine the Individual fund data to provide an verbal portfolio values.

At the higher level I run completely separate income and low risk portfolios.  The equity growth portfolio is intended for the long term only so most crashes do not present a risk.

chiang_mai

MaxiRobriguez said:

chiang_mai said:

If anyone has any other interesting ways to quantify a portfolio for risk, I’ll be pleased to learn of it. 

You can look under the hood at the holdings and how certain triggers can impact the wider portfolio. 

For example, your US fund will be dominated by the magnificent 7 tech stocks. If media narrative is right and there's a big sell off coming in that space that will bleed into other markets: Your Asia Developed #1 underlying holding is likely TSCM which will get whacked in the same proportion as the tech sell off. The UK fund will suffer given the impact on global banking... etc. That's following some fairly basic logic, without considering the "when America sneezes the rest of the world catches a cold" type response where everything sells off just because the US markets are. 

Despite that, your portfolio probably is cautious based on the equity proportion only being 47%. You just need to work out what the impact on the other 53% of your portfolio would be in certain equity trigger events. Obviously cash and cash-like investments wouldn't change much but if you have exposure to long duration bonds or gold you need to consider what they're doing for you in your portfolio. 

My US stocks are limited to a single US index tracker but it is market weighted and at some risk of tech failure. I just can't see me wanting to go for an equal value index.

TSCM is an issue, I must admit it pops up everywhere.

My bonds are all short duration, this part is very clean.

My exposure to gold is very limited and mostly indirect expsoure.

Contagion is probably my biggest single risk, outside of TSCM, I shall have to be creative about the latter. 

Thanks for the sound check.

masonic

I'd be interested to understand more about equity funds that fall into the cautious risk group. If you look at measures like maximum drawdown or volatility, it's hard to identify any equity funds that are significantly more cautious than average in my experience. I'd be keen to consider such a fund for inclusion in a lower risk portfolio, but have resigned myself to them being a myth, with mixed-asset or fixed interest being the only reliable option for diluting risk.

chiang_mai

masonic said:

I'd be interested to understand more about equity funds that fall into the cautious risk group. If you look at measures like maximum drawdown or volatility, it's hard to identify any equity funds that are significantly more cautious than average in my experience. I'd be keen to consider such a fund for inclusion in a lower risk portfolio, but have resigned myself to them being a myth, with mixed-asset or fixed interest being the only reliable option for diluting risk.

You are correct of course, the lowest risk equities fund that I hold is Orbis Global Cautious, which has an MS rating of 44 or Moderate. My second bullet point above should not have included the word Cautious since all my equities funds are rated Moderate or above. My apologies for my error. 

masonic

chiang_mai said:

masonic said:

I'd be interested to understand more about equity funds that fall into the cautious risk group. If you look at measures like maximum drawdown or volatility, it's hard to identify any equity funds that are significantly more cautious than average in my experience. I'd be keen to consider such a fund for inclusion in a lower risk portfolio, but have resigned myself to them being a myth, with mixed-asset or fixed interest being the only reliable option for diluting risk.

You are correct of course, the lowest risk equities fund that I hold is Orbis Global Cautious, which has an MS rating of 44 or Moderate. My second bullet point above should not have included the word Cautious since all my equities funds are rated Moderate or above. My apologies for my error. 

Thanks, I took a look at that fund and it seems to be mixed asset with about 30% in equities.