Chapter 2

1. Variance or standard deviation

2. Possible loss -> Measured by Value at Risk (VaR)

1. easier to handle (less assets) -> easier data availability

2. more stability in expected returns and risk parameters (less idiosyncratic shocks)

3. Asset Allocation of any well-diversified portfolio is the most important point of the overall risk-return picture (90% of the return variation can be explained by asset allocation)

Allocation of portfolio values in broadly defined asset classes -> f.ex. shares, bonds, derivatives etc.

1. historical approach -> based on historical return data

2. Valuation approach -> belief that markets will return fair valuation levels

3. Fundamental forecasting -> forward looking approach -> analysis of macroeconomic trends (very arty)

Low usage of stocks and high usage of fixed income instruments

Reasons:

1. guarnteed minimum return (short fall return)

2. very low probability of falling short (99% confidence interval, due to Solvency II)

1. Lower confidence level z

2. Lower minimum return

3. Reduce portfolio volatility-> protective put strategies or similiar

1. Regulators force insurer to offer minimum rate of return on invested capital

2. Annual return on investment is calculated on book values -> only realized gains & unrealized (realized) losses affect P&L

Jensan alpha > 0

1. markets are not perfectly efficient -> active managers can gain advantage if they exploit these inefficiencies

2. Manager has better information than market

only active management:

-> no value added because of the zero sum game -> after fees the industry as whole destroys value (because of fees etc.)

active & passive management:

all active manager as group could outperform passive investors (zero sum game than just under active managers)

-> value creation

In general (if markets are inefficient):

Value thru looking for mispriced assets and exploiting this opportunity -> prices moves closer to fair value (value is for society not in particular for active managers)

1. Information gathering is costly

2. Irrational Behavior (Crashphobia)

specialized cimpanies in giving advice to institutional investors and sometimes very high net worth individuals

1. Definition of investment policies

2. Asset Liability Analysis

3. Strategic Asset Allocation

4. Manager selection

5. Implementation

6. Investment controlling

1. Conflict of interest (lower profitability than active managers -> offering their own asset management products)

2. Sometimes lack of experience

3. Preference of quantitative tools for manager selection -> easy to handle, reinsurance (low political risk) & low marginal costs

standardized questionaire from investment consultants to find managers for a specific product

-> tailored to type of product (also needs of investor)

-> filled in by manager

Purpose to find out if management company out/underperforms with respect to a specific product

1. Quantitative -> based on past performance measurement

2. Qualitative -> fundamental analysis (investment style, degree of specialization, credibility, resource base etc.)

+elegent methodlolgy

+clear-cut-results

-data availability

-data are historical

-results are often statistically insignificant

+forward-looking

+non-quantifiable factors can be taken into account

-no clear-cut results

-resoruce-itensive

-politcal risk

1. definition product/management type

2. pre-selection of manager data-bank -> long list

3. tailormade questionaire (by 2 teams) sent out to managers

4. Seperate RFP analysy by the 2 selection team

5. discussion of RFP results -> short list

6. final manager interviews (with investors)

7. manager recommendation by investment consultant

1. asset managmenet company

2. investment approach for specific product

3. people involved in managing client portfolio

4. portfolio construction

5. risk management & legal aspects