Advanced Asset Management
Transcription
Advanced Asset Management
NEW ECONOMIC SCHOOL Masters in Finance Advanced Asset Management 2015 Andrei Simonov Michigan State University [email protected] TA: Eduard Inozemtsev [email protected] Course description The main task of the course is to provide the students with intellectual and analytical framework that allows them to evaluate the “real world” of investments. We will focus mostly on the problems faced by investors in choosing among numerous available investment opportunities. We will go through strategic asset allocation, tactical asset allocation . Both the theory and the empirical evidence are reviewed. Also, special topics, such as hedging, portfolio insurance, and behavioral biases are covered. The cases is designed to give you “hands- on” knowledge of major concepts in investments. The course is essential for any business professional that wants to make his/her career as investment banker or as a corporate treasurer. The course is heavily case based and require a lot of homework. It can be done in groups (but you can do it also alone). I would appreciate if those groups can be created by May 15th. Course requirements, grading, and attendance policies Grades are based on cases and class participation. There are 8 cases, 6 of those are graded . Each is worth 15% of your grade (class participation is worth another 10%). If you miss the case without good reason you are getting 0 pts. No final exam is planned. Students will be split into groups of 3-4 people and must submit joint work. Case Study grade and Discussion Grade may vary across group members based on the in-class participation during the discussion. Course contents We are planning to cover topics in both Equity and Fixed Income management, as well as topics in Mutual Funds and Hedge Funds. For Equity we are planning to cover Strategic Asset Allocation, Tactical Asset Allocation, Asset-Liability Management, Models of Volatility. For Fixed Income we will cover basics of interest rates and corresponding fixed income instruments, Merton model and credit risk related products. Course materials Required textbooks and materials There is no textbook. Course is based on set of papers Cases: 1. Deutsche Bank: Discussing the Equity Risk Premium (George Chacko; Peter Hecht; Vincent Dessain; Anders Sjoman), HBS Case 20504 . NEW ECONOMIC SCHOOL Masters in Finance 2. Ontario Teachers’ Pension Plan Board Asset Allocation Decision (Richard Ivey SOB Case 8A97N03) 3. DFA 2002 Case (HBS 9-203-026) 4. AQR’s Momentum Fund (HBS Case 211025-PDF-ENG) 5. Hedge Fund Due Diligence at Leman Alternative Asset Management Company (Darden Case UV6686) 6. Abbot Labs & Alza Case (203003-HCB-ENG) 7. AQR Delta Strategy ( 212038-PDF-ENG) 8. Kerr-McGee (HBS Case 5-208-135) 9. Papers: Mandatory readings is marked with X. The rest is going to be covered in class. Please note: some of those papers are quite involved. But what I want from you is to understand the issues and not the econometric nitti-gritti. I update slides often, but final vesion will be online at least 2 days before class. Class1: Strategic Asset Allocation and Asset Pricing Models First lecture is about a bit deeper understanding of advantages and disadvantages of classical portfolio optimization problem and asset pricing models. What performance should we expect from major markets over the next twenty years?Can we gain anything by international diversification? How to build workable portfolio in practice? NB: This topic will be discussed over 2 classes. Introductions, Course Outline, Requirements, Resources Portfolio optimization Domestic and international diversification Pitfalls in Portfolio constructions What are equilibrium Risk Premia? Black-Litterman Approach: Beyond Equilibrium Slides Readings: XHBS Case 205040-PDF-ENG: Deutsche Bank: Discussing the Equity Risk Premium (George Chacko; Peter Hecht; Vincent Dessain; Anders Sjoman) - not for grade discussion. PLEASE READ IT BEFORE CLASS Jeremy J. Siegel, "Stocks and Bonds since 1802," chapter 1 in Stocks for the Long Run : The Definitive Guide to Financial Market Returns and Long-Term Investment Strategies, McGraw-Hill, pp. 3-24. (see my.nes) Edward M. Kerschner, "Does Asset Allocation Matters anymore?" Paine Webber, Aug. 20, 2000. BEKAERT, G., HODRICK, R. J. and ZHANG, X. (2009), International Stock Return Comovements. The Journal of Finance, 64: 2591–2626. doi: 10.1111/j.15406261.2009.01512.x NEW ECONOMIC SCHOOL Masters in Finance Esther Eiling, Bruno Gerard, Pierre Hillion, and Frans de Roon International Portfolio Diversification: Currency, Industry and Country Effects Revisited - October 2009 Jeff Diermeier; Bruno Solnik, "Global pricing of equity," Financial Analysts Journal; Charlottesville; Jul/Aug 2001 John Y. Campbell, Martin Lettau, Burton G. Malkiel, Yexiao Xu, "Have Individual Stocks Become More Volatile? An Empirical Exploration of Idiosyncratic Risk," Journal of Finance, 2001 . XBrad Barber and Terrance Odean, "The Courage of Misguided Convictions," Financial Analysts Journal, November/December 1999, 41-55. Edward M. Kerschner, "What is S&P 500?" XRajnish Mehra. The equity premium: Why is it a puzzle? Financial Analysts Journal. Charlottesville: Jan/Feb 2003. Vol. 59, Iss. 1; p. 54 (16 pages) William N. Goetzmann and Philippe Jorion, “A Century of Global Stock Markets,” Journal of Finance 1999 "Great Expectations", The Economist, Jan 31st, 2002 . Peter Coy, "Economics: How Risky Is the Risk Premium?" Business Week, Dec. 25, 2000. Robert Litterman and Kurt Winkelmann, Goldman Sachs, January 1998, Estimating Covariance Matrices. Andrew Bevan and Kurt Winkelmann, Goldman Sachs, June 1998, Using the Black- Litterman Global Asset Allocation Model: Three Years of Practical Experience. G. Le and Robert Litterman, Goldman Sachs, December 1999, The Intuition Behind the Black-Litterman Model Portfolios. Wing Cheung The Black-Litterman Model Explained , working paper I put here couple of examples of portfolio optimization (without endorsing any of those). More good examples can be found via Google. Will Sharpe optimizer Example of Solver Portfolio Optimizer by Craig Holden Class 2 : Asset-Liability Management How to apply Markowitz optimizer to simplest financial problem on earth (that is, pension problem)? Imagine that you have to invest in order to finance your employees' pensions. You promise them 70% of their last salary adjusted for inflation for life if they waste 30 years of their life in your firm. How to do it? How costly is that? Slides Ontario Teachers'case is due. Questions are there. We will probably spend half of the class discussing it. NEW ECONOMIC SCHOOL Masters in Finance Of interest: OTPP web site Buy-outs in Canada: Pension funds circle a national treasure DIY The Economist, Apr 19th 2007 SSharpe-Tint 1990 JPM paper Class3-4: Multifactor Asset Pricing, Tactical Asset Allocation I DFA 2002 Case is DUE: What is risk factor? Questions for the case Expected returns Mean-variance perspective on TAA Are expected returns predictable? US and International evidence. Statistical and econometric issues Slides Readings X Mathijs A. van Dijk Is size dead? A review of the size effect in equity returns, Journal of Banking and Finance 35 (2011), 3263-3274. Campbell R. Harvey and Wayne Ferson, "Sources of Predictability in Portfolio Returns," Financial Analysts Journal May/June (1991): 49-56. XCampbell R. Harvey and Wayne Ferson, "The Risk and Predictability of International Equity Returns," Review of Financial Studies 6 (1993) 527- 566. XArturo Estrella and Mary R. Trubin, "The Yield Curve as a Leading Indicator: Some Practical Issues", Current Issues in Economics and Finance, NY Fed, 12(2006). Dumas B. and B. Solnik, 1995, ''The world price of foreign exchange risk'', Journal of Finance, 50, 445-479.. Campbell R. Harvey, "Predictable Risk and Returns in Emerging Markets," Review of Financial Studies (1995): 773-816. Economics focus: The long and the short of it, Economist, Jan 7, 2006 Class 4 AQR’s Momentum Fund (HBS Case 211025-PDF-ENG) is due Higher moments (just briefly): NEW ECONOMIC SCHOOL Masters in Finance Topics: Econometric techniques used for modeling volatilities and correlations. Statistical properties of volatility Models of conditional volatility: ARCH and GARCH models Other forecasting methods: chaos, genetic algorithms, neural nets, etc.( I am quite pessimistic re. those, but so many people are using them...) Role of Uncertainty Skewness Slides Readings: XCampbell R. Harvey, "Forecasting International Equity Correlations," with Claude Erb and Tadas Viskanta, Financial Analysts Journal (1994): November/December 32-45. Campbell R. Harvey, "Predictable Risk and Returns in Emerging Markets," Review of Financial Studies (1995): 773-816. Handouts Campbell R. Harvey,"Autoregressive Conditional Skewness," with Akhtar Siddique, Journal of Financial and Quantitative Analysis 1999 XJoseph Chen , Harrison G. Hong and Jeremy C. Stein," Forecasting Crashes: Trading Volume, Past Returns and Conditional Skewness in Stock Prices", MIT Working paper. Class 5-7: Hegde Funds: Topics: Part 1: HF Big picture 1. Difference between traditional funds and HF, constrained versus unconstrained 2. HF Key Characteristics, and how HF lever up: buying on margins, short selling, repos and TRS/CDF 3. Biases and Performance (risk return), HF indices 4. What’s wrong with standard risk measures and the MV paradigm for HF, advanced risk measures… Part2: HF strategies 1. Fixed Income arbitrage and CB arbitrage 2. Long-short Equity strategies 3. HF activism and case Kerr Mc Gee (HBS) Class 5: Abbot Lab and Alza case is due. Class 6: Hedge Fund Due Diligence at Leman Alternative Asset Management Company case is due Class 7: AQR Delta Strategy case and Kerr-McGee case (class will be divided in half) NEW ECONOMIC SCHOOL Masters in Finance 1. XAgarwal, Vikas and Narayan Naik, 2004, “Risk and Portfolio Decisions Involving Hedge Funds” Review of Financial Studies. 17: 63 - 98. Skim the introduction and skip section 5. Just focus on Table 4 and 5 of performance evaluation. They do a good job of constructing an option-writing factor. 2. XMalkiel, Burton , and Atanu Saha, 2005, “Hedge Funds: Risk and Return,” Financial Analysts Journal 61 (6) 80-89. Documents selection bias. 3. XLo, Andrew W., 2001, “Risk Management for Hedge Funds: Introduction and Overview” Financial Analysts Journal. This is a nice overview of fat tails, survivor bias, etc. and what it means for hedge fund evaluation. 4. XFung, William and Hsieh, David A., Benchmarks of Hedge Fund Performance: Information Content and Measurement Biases. Financial Analyst Journal, Forthcoming. Available at SSRN: http://ssrn.com/abstract=280665 5. XBebchuk, Lucian A., Brav, Alon, and Jian, Wei , 2013, The Long-Term Effects of Hedge Fund Activism.. July 2013 Draft. Columbia University. http://www.columbia.edu/~wj2006/HF_LTEffects.pdf More great hedge fund papers 1. Stulz, Rene, 2007, “Hedge Funds: Past, Present and Future,” Journal of Economic Perspectives 21(2) 175-194. This is a good overview. Lite reading. 2. William N. Goetzmann, Sharon Oster, 2012, Competition Among University Endowments, NBER working paper 18173. University endowments care not so much about absolute money, but about having more than their competitors. They document this, and endowments betting the farm on hedge funds to catch up. It's an interesting insight to the question, who invests in hedge funds and why? 3. Asness, Clifford, 2004, “An Alternative Future Part II: An Exploration of the Role of Hedge Funds.” Journal of Portfolio Management, Fall 2004, v. 31, iss. 1, pp. 8-23. Beautiful exposition of where funds are, where they’re going, and why they’re likely to stick around. Disagrees a lot with Stulz. 4. Cassar, Gavin and Joseph Gerakos, 2009, “Hedge funds: pricing controls and the smoothing of self-reported returns,” (You can skip “robustness tests” p. 27-31.) Is autocorrelation in fund returns a sign of illiquidity or report management? They split up hedge funds by how much discretion managers have over return reporting, to see if more discretion means more autocorrelation. It's not as strong as you might think, suggesting illiquidity rather than results management. Academic integrity policy Cheating, plagiarism, and any other violations of academic ethics at NES are not tolerated. NEW ECONOMIC SCHOOL Masters in Finance Study questions for cases: Study Questions for Ontario Teachers’ Pension Plan Board Case. The purpose of a case is to challenge you to identify the key issues of the decision situation at hand. Here are a few pointers: 1. What are key objectives of OTPPB? 2. Why is the OTPPB reevaluating the asset mix policy? 3. Who are key stakeholders? What are their key concerns? Are their interests always in line? 4. What are the OTPPB stated objectives/ targets/ goals? 5. What type of pension plan is it? What are key assumptions? What are the main unique challenges that OTPPB face? 6. How critical is the 4.5% real return? 7. How are different asset classes defined? Why were those particular classes chosen? Should they use more asset classes now? 8. What is main result of “new” asset allocation strategy? 9. What is the purpose of efficient frontier analysis? Critique consultant’s report, their assumptions and their findings. 10. Please do your own sensitivity analysis. State all assumption you made. What are the results of sensitivity analysis? 11. Describe key risks the OTPPB needs to consider when determining its diversification strategy. 12. As Mr. Booth, what additional analysis (if any) would you do at this point? What would you recommend to the board? 13. What the main concerns of the board might be? Please, do not answer these questions one by one. Instead, use them only as ways to prime your own analysis. You may then organize and draft your results in whichever way you see fit. If you feel that you have to make any assumptions, please do it by stating them clearly in your report. NEW ECONOMIC SCHOOL Masters in Finance Please note: Those questions are designed to guide you to important points in your analysis. What is important and what is not is up to you to determine and is part of a challenge for this case. I expect the report to be no longer than 7 pages + Excel spreadsheets. NEW ECONOMIC SCHOOL Masters in Finance Study Questions for DFA Case (2002). The purpose of a case is to challenge you to identify the key issues of the decision situation at hand. Here are a few pointers: 1. Describe the philosophy and business strategy of DFA. What sort of market behavior are they counting on? What sort of customers are they expecting to have? Are those customers can be considered as mean-variance investors? Are the DFA people really believe in efficient markets? 2. What kind of market equilibrium DFA envisions? 3. Describe the pricing framework proposed by DFA. How do they plan to generate ALPHA's ? Will that work? 4. Do the Fama/French Fundings make sense? Should we expect small stocks to outperform S&P in the future? Value stock to outperform Growth stocks? Please analyze those issues using Ken French' data (below). 5. Why has DFA small stock fund performed so well? 6. Is DFA tax-managed funds family likely to be successful, or remain a small niche market? Please use back-of-the-envelope calculations. 7. What should be the firm's strategy going forward? Please, do not answer these questions one by one. Instead, use them only as ways to prime your own analysis. You may then organize and draft your results in whichever way you see fit. If you feel that you have to make any assumptions, please do it by stating them clearly in your report. I expect the report to be no longer than 7 pages + Excel spreadsheets (if necessary). I would appreciate 12pt font. For data, please look at Ken French' web site Also of interest: DFA web site NEW ECONOMIC SCHOOL Masters in Finance Study Questions for Risk Arbitrage: Abbot Labs & Alza Case. The purpose of a case is to challenge you to identify the key issues of the decision situation at hand. Here are a few pointers: 1. Describe how does risk arbitrage work? What are the risks and opportunities associated with this strategy? 2. Green Circle shorted 312K shares of Abbot and longed 260K Alza shares. How did they determine the appropriate relative position sizes? What can you say about the potential returns and expected returns on investment? 3. Why would you expect positive excess returns from a risk arb strategy? Why wouldn't market efficiency prevent such profit from persisting? Do you believe the strategy will be profitable in the long run? 4. How could the put option discussed at the end of the case potentially help Smith? Does the put increase or decrease the risk of the position? Does it increase or decrease the expected returns? 5. As Chris Smith, would you close teh position, invest more, or hold on? If you kept the position open, would you use options to hedge? Please, do not answer these questions one by one. Instead, use them only as ways to prime your own analysis. You may then organize and draft your results in whichever way you see fit. If you feel that you have to make any assumptions, please do it by stating them clearly in your report. I expect the report to be no longer than 7 pages + Excel spreadsheets (if necessary). I would appreciate 12pt font. Mark Mitchell and Todd Pulvino, "Characteristics of Risk and Return in Risk Arbitrage,", JF 2001. Malcolm Baker and Serkan Savasoglu, "Limited Arb in M&A", JFE, 2002. NEW ECONOMIC SCHOOL Masters in Finance AQR's Momentum Funds (A) AQR is a hedge fund which is contemplating offering a mutual fund which invests based on momentum strategies, the idea that in the short term stocks which have done well continue to do well while stocks which have done poorly will continue to do poorly. While these strategies were successful for hedge funds, offering this in a mutual fund raises a number of challenges. 1. Should AQR launch its momentum fund? 2. Do you believe the Fama-French momentum (UMD/MOM) factor will have returns over next 1015 years that are significantly greater than zero? Use historical data to do your analysis. 3. Compare UMD factor with other specifications for momentum. Specifically, use spreadsheet supplement for the case to create a. Decile Spread portfolio returns (10-1) b. Quintile Spread portfolio Returns ((10+9)-(1+2)) c. UMD spread (see spreadsheet) d. Median spread ((10+9+8+7+6)-(1+2+3+4+5)) Generate the average returns for each four of these momentum for every decade (1920es, 1930es, etc.). Does it affect your answer to (2) above? 4. What is an appropriate benchmark for this type of product? Will the net performance of the fund exceed those benchmarks? Why or why not? 5. The correlation structure in Ex.5 was seen as an important selling point of momentum. Is this right way to think about AQR Momentum mutual funds? What would be more informative correlations (use spreadsheet if needed)? 6. Is this an appropriate strategy for retail mutual fund investors? 7. What are the special challenges to offering a mutual fund based on momentum? 8. Should AQR maximize returns vs minimizing tracking error? I expect the report to be no longer than 7 pages + Excel spreadsheets. NEW ECONOMIC SCHOOL Masters in Finance Study Questions for Hedge Fund Due Diligence at Leman Alternative Asset Management Company (UVA-F-1698). 1. What is collar strategy and how does it work? 2. Construct a collar strategy with at-the-money calls and at-the money puts using the historical data in Case Ex.3. Backtest what would have been the growth in value of a $1 invested from the start of December 1990 to the end of December 2007 following this strategy. See case Ex. 2 for details on a collar strategy. Plot it against the monthly growth in value of $1 in the HFRX EH: Equity Market Neutral Index (HFRI EH), the S&P500 and 1 month T-bills. What would be Sharpe ratio of each strategy? 3. Do the same with OTM calls (strike =105% of the current value of the S&P index) and OTM puts(with strikes = 95% of the current value of the S&P index). What would change? 4. Can you get a fixed-strike rule of the moneyness of the call and put options on the collar strategy so you can match the growth of $1 experienced by Fairfield Guard Hedge Fund? A fixed strike rule means that you should keep moneyness held constant over time. Spreadsheet will be provided. I expect the report to be no longer than 7 pages + Excel spreadsheets. NEW ECONOMIC SCHOOL Masters in Finance AQR's Delta Funds (A) 1. Is DELTA delivering beta or alpha? 2. How might it cannibalize AQR’s existing business? 3. Using the data in Ex.3 of the case, regress HFRI on each index. Use the coefficients to forecast the return for each month in 2003. Repeat this regression using data for 1997-2003 and forecasting HFRI return for 2004. Repeat through 2011. a. What is average monthly return and volatility of HFRI? How does it compare to properties of expected returns? To the properties (e.g. Sharpe ratio) of S&P? b. How well do predicted returns correlate with HFRI? c. How much fees could HFRI replication charge before falling below S&P Sharpe? 4. Fees: a. Using Ex. 10 from the case, calculate the average annual return gross and net of fees (management+performance) for each fund. How large is the average gap, and what does this gap depends on? b. Calculate each year the equal-weighted average of the 10 hedge funds’ gross and net returns. Apply a 1&10 fee and take the average across all funds. i. How large is the difference? ii. Does it depend on anything new? iii. How large does fund-of-fund’s ability need to be to justify fees? iv. How large could slippage be on a bottoms-up strategy that replicates gross returns and charged 1&10 on average? 5. How has DELTA done vs HFRI and HFRX? Compute mean return, volatility, Sharpe Ratio, and correlation of DELTA with the indices, for the whole period as well as two sub-periods (2008-9 and 2009-11). NEW ECONOMIC SCHOOL Masters in Finance Kerr-McGee 1. At $57.79 per share at year –end 2004, and based on an analysis on an analysis of the multiples of comparable firms, does Kerr-McGee’s stock price appear to have been undervalued? 2. What are Icahn and Rosenstein thinking? How will their proposal work? Does it make sense? 3. Why is Corbett opposed to restructuring of the firm? How should he respond? 4. Calculate NPV of Kerr-McGee’s oil and gas business if the firm were to immediately cease all exploration? (Assume that it takes one year one year to find, four years to develop, and eight years to produce a given barrel of oil. Assume further that net revenue per barrel is 80% of the expected future oil price. Assume that development expenditures and 25% of funding costs are capital expenditures and depreciated on a straight basis over the production period. The remaining finding costs can be expensed immediately) 5. Calculate NPV of exploring, developing, and producing oil on the basis of a single barrel of oil found. 6. Based on the analysis above, should Kerr-McGee continue exploring for oil? 7. What should Corbett do?