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Alternative Market Briefing

Understanding tail-risk hedges and funds - part four

Monday, August 06, 2012

Bailey McCann, Opalesque New York:

Last week we discussed how portfolio protection has evolved from initial theories of portfolio insurance to newer theories such as hedging left tail-risk and how to structure this type of hedge. This week we will continue our discussion of structure to include more controversial options such as derivatives, and volatility.

Structure, part 2

Left tail-risk is often discussed in terms of an equities focused portfolio, however, the potential for a tail event exists across investments - equities, credit, commodities and fixed income. Individual investors may opt to examine or "hedge out" those risks ahead of investment in a given fund or within their existing portfolio in order to effectively size a tail-risk hedge. Dynamic sizing is an important structural component of this type of hedge in order to realize maximum protection during a tail event and control cost before an event strikes.

Funds of hedge funds do this on a bigger scale by constructing portfolios made up of different funds and different risk profiles toward a broader set of investment objectives. In this case, they look at tail-risk at both the macro and micro level. "We have an integrated risk management program, on one hand its independent from the investment committee on the other hand it's integrated into how we pick managers and thei......................

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