This textbook provides a first-hand account of impact of volatility on valuations. It focuses on valuation of the investment with fair, practical and insightful explanations. Volatility in markets can form the foundation of fair value. A marginal change in volatility has a significant impact on the effective cost of borrowing (capital). Portfolio managers, fund managers and corporates continue to watch as prices plunge due to volatility and can impose future restrictions on their skillful maneuver. The book highlights the approaches, design of tests, comparison and matching or making of models. It delves into techniques for measuring the contours and boundaries of risk and translating the losses to end impact. It explains the post facto and post period nuances to recover from money loss. The book further elaborates combining positions and hedging, to evaluate and choose to conduct tests of effectiveness. It provides guidance on benchmarks of portfolios, tax implications and carrying forward benefits of losses. The text includes examples and business use cases that build on analysis, common tools and highlights the end use of volatility for stakeholders.
Author(s): Dinabandhu Bag
Publisher: Springer
Year: 2022
Language: English
Pages: 176
City: Cham
Preface
Contents
About the Author
List of Tables
Part IIntroduction
1 Introduction
1.1 Valuation and Volatility
1.2 Losers
1.3 Stakeholders
1.3.1 Investors
1.3.2 Regulators
1.3.3 Government
1.3.4 Brokers and Primary Dealers
1.4 Types of Stakeholders
1.4.1 Intermediaries
1.4.2 Governments
1.4.3 Retail Investors
1.4.4 Speculators
1.4.5 Institutional Investors
1.5 Goals of Investment
1.5.1 Capital Appreciation
1.5.2 Income Earnings
1.5.3 Capital Preservation
1.5.4 Obligatory Investments
1.5.5 Liquidity
1.5.6 Sector Needs
1.5.7 Social Impact
1.5.8 Climate
1.5.9 Goals of Institutions
1.5.10 Needs of Retail or Small Investors
1.6 Horizons
1.7 Global Portfolio Investors
1.7.1 Foreign Portfolio Investors (FPI)
1.7.2 Goals of Insurers
1.7.3 Host Country Regulatory Issues
1.8 Summary
1.9 Questions
References
2 Volatility
2.1 Volatility
2.1.1 Historical Volatility (HV)
2.1.2 Measures
2.1.3 Time–Varying Volatility
2.1.4 Annualized Volatility
2.1.5 Volume–Weighted Average Price (VWAP)
2.2 Nature of Volatility
2.2.1 Mean Reversion
2.2.2 Volatility Clustering
2.2.3 Volatility of Volatility
2.2.4 Seasonality
2.2.5 Fat Tails
2.2.6 Trend of Volatility
2.2.7 Long Memory
2.2.8 Co-Volatility
2.3 Causes of Volatility
2.3.1 Political Developments and Economic Indicators
2.3.2 Specific Risks
2.3.3 Leverage and Volatility
2.3.4 Liquidity
2.3.5 Integrated Markets
2.4 Volatility Measurement
2.5 Summary
2.6 Questions
References
3 Realized Volatility
3.1 RV
3.2 RV Calculation
3.3 Benefits of RV
3.4 Properties
3.5 Types of Realized Volatility
3.5.1 5-min Intraday Realized Volatility
3.5.2 Median-Based Volatility
3.5.3 Range-Based Volatility
3.5.4 Volume–Weighted Volatility VWV
3.5.5 Realized Co-Volatility of a Portfolio
3.5.6 IPO R-Volatility
3.5.7 Hypotheses
3.5.8 Sample Length
3.6 Empirical Model
3.7 Using RV
3.8 Summary
3.9 Questions
References
Part IIValuation
4 Valuation
4.1 Role of Valuation
4.2 Types of Value
4.2.1 Fair Value
4.2.2 Fundamental Value
4.2.3 Terminal Value
4.2.4 Panic Value
4.2.5 Resale Value
4.2.6 Purchase Value
4.2.7 Worst Value
4.2.8 Best Value
4.2.9 Exchange Value
4.2.10 Comparative Value
4.2.11 Enterprise Value
4.2.12 OBS Value
4.3 Value of Equity
4.3.1 Single Stock
4.3.2 Stock Warrants
4.3.3 Employee Stock Options (ESOPs)
4.4 Valuation Approaches
4.5 Models
4.5.1 Cash Flows (CF)
4.5.2 Cost of Equity Capital (KE)
4.5.3 Walter Model
4.5.4 Gordon Model
4.5.5 H-Model
4.5.6 Grinold–Kroner Model
4.5.7 Payout Multiplier Model (POR)
4.5.8 r-NPV (Risky NPV)
4.5.9 Minority Ownership Discount
4.5.10 Liquidity Impact
4.6 Asset-Based Valuation Models
4.6.1 Terminal Liquidation and Replacement Value
4.6.2 Leverage Buyout (LBO)
4.6.3 P/E Ratio
4.6.4 Adjustments to Price
4.6.5 Lack of Marketability (LOM)
4.7 Choices in Models
4.7.1 Matching Methods
4.7.2 Choice of Multiples
4.7.3 Control Premium
4.8 Impact of Volatility
4.9 Tests of Robustness
4.9.1 Sampling Plans
4.9.2 Errors in Value
4.10 Fitness Tests
4.11 Summary
4.12 Questions
References
Part IIILosses, Recovery and Prevention
5 Risk and Monetary Impact
5.1 Monetary Loss
5.2 Return
5.2.1 Absolute Return
5.2.2 Relative Return
5.2.3 Weighted Return
5.2.4 Expected Return
5.3 Measurement Tools and Backtesting
5.3.1 Risk–Reward
5.3.2 Win–Loss Ratio
5.3.3 Days’ Average
5.3.4 Profit–Loss Ratio
5.3.5 The Sharpe Ratio
5.3.6 Sortino Ratio
5.3.7 Calmar Ratio
5.3.8 Sterling Ratio
5.3.9 Omega
5.3.10 K-Ratio
5.3.11 Treynor
5.3.12 Jensen’s Alpha
5.3.13 Rachev Ratio
5.4 Loss and Margin
5.4.1 Loss Limits
5.4.2 Maximum Drawdown (MDD)
5.4.3 Zero Variance Portfolios
5.4.4 Risk-Adjusted Value
5.4.5 Value at Risk (VaR)
5.4.6 Liquidity Value at Risk
5.4.7 Fixing Limits
5.5 Path to Recovery
5.6 Reducing Trading Costs
5.7 Memory and Recovery
5.8 Telescoping Bias
5.8.1 Backward Telescoping
5.8.2 Forward Telescoping
5.8.3 Psychology of Loss Making
5.8.4 Stop Repeating Losses
5.9 Summary
5.10 Questions
References
6 Hedging
6.1 Derivative
6.2 Single Stock Futures
6.3 Basis Volatility
6.4 Hedge Ratio
6.5 Options
6.6 Netting of Margins
6.7 Put–Call Parity
6.8 Hedging Strategy
6.8.1 Delta Hedging (Δ)
6.8.2 Theta (Θ)
6.8.3 Gamma (Γ)
6.8.4 Vega (V)
6.8.5 Rho (ρ)
6.9 Efficacy Tests of Hedging
6.9.1 Qualitative Methods of Hedge Effectiveness
6.9.2 Sample Window
6.9.3 Split Tests of Hedging
6.9.4 Model
6.10 Volatility Strategy
6.10.1 Volatility Derivatives
6.10.2 Risk Parity
6.10.3 Equal Volatility Weighting
6.10.4 Volatility Targeting
6.10.5 Zero Variance Portfolios
6.10.6 Equal Weighting
6.10.7 Global Portfolio
6.10.8 Volatility Targeting
6.11 Summary
6.12 Questions
References
7 How Far the Risk
7.1 Microscope
7.2 Exit a Trade
7.3 Ordinary Loss
7.4 Tax Benefits of Loss
7.4.1 Long-Term Capital Gains
7.4.2 Carryforward Losses
7.4.3 Loss Carryback
7.5 Market Triggers
7.6 Support and Resistance
7.7 Advance-Decline Ratio
7.8 Put–Call Ratios
7.9 Motivation and Response to Trading
7.10 Summary
7.11 Questions
References
8 Use Cases and Business Application
8.1 Business Case
8.2 Pre-requisites
8.3 Tools
8.3.1 Moving Average Convergence Divergence (MACD)
8.3.2 Volatility Adjusted MACD
8.3.3 200-Day Moving Average
8.3.4 Support and Resistance
8.3.5 RSI
8.3.6 EWMA Volatility Strategy
8.3.7 Equal Volatility Weighting
8.3.8 Fair Value Measurement
8.3.9 Covid-19 Shocks
8.4 Summary
References
Appendix Data and Tables
