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April 17, 2013

Is traditional portfolio management dead?

When listening to the presenters on the “Portfolio Optimisation & Quantitative Investment Summit” at the Global Derivatives Trading and Risk Management event in Amsterdam this week one could draw such a conclusion. Another is: “Do not worry!”, because, not least due to the 2008 crisis, risk management models and portfolio construction models have evolved and still allow for a decent return when managed thoroughly and correctly. Some of the themes that emerged were around the construction of alpha-generating portfolio strategies as well as using measures like convexity, volatility but also liquidity risk to intelligently make investment decisions. All speakers agreed that finding the right portfolio strategy has become vastly more complicated as regulations are ever encroaching on portfolio managers. Quantitative strategies are looking at sound measurements and – more importantly – sound data sets to incorporate the market and regulatory changes. One example was the news-flow based investment strategies J.P. Morgan Cazenove is employing. Language recognition algorithms are being used to deduct possible patterns in how stock prices react to certain meaningful news flows. Another example was the incorporation of volatility considerations into one’s decision process. One point in case is understanding tail risks and using that knowledge to hedge one's portfolio strategy although this gets complicated due to the fact that some tails are "unknown unknowns". Diversification has also taken a new turn as more interconnectedness in the market makes risk-free portfolio diversification virtually impossible. Overall (and somewhat against the headline of this blog entry), the 50-odd participants of the summit left in high spirits as speakers outlined the various ways that are still available to generate alpha. But as this involves a different set of risks that have to be taken the question remains: will risk-averse investors stay the course and go on this new route of investing. Tom.


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