John Nicholson is in charge of the risk management committee for Beta Portfolio Managers. Beta has a variety of bonds in their portfolio of differing durations, call features, and coupons. He is worried about the impact on the firm’s bond portfolio from simultaneous changes in interest rates, the shape of the yield curve, and interest rate volatilities. Which of the following forms of stress testing is he most likely to utilize? A) Factor push analysis. B) Stylized scenarios. C) Worst-case scenario analysis.
B? worst case is worst case… factor push, from what i remember, which is little, is when you push all of the factors to the extreme… and i forget what stylized scenario is, but i think it’s the right answer…
I would go with B too. A could be justified because, one can push one or more factors to extreme in factor push analysis. C can’t be justified because there are other risk factors like credit spreads etc which are not being pushed to the maximum.
I would say B. He is not worried about worse case but seems worried about the volatility and which case you would want to see a variety of scenarios tested.
Okay, can someone explain to me in non-Schweser language what exactly the difference is between A and B?
Factor push deals with taking the price and risk factors to the extreme and see the effect on the portfolio. Stylized scenario measures changes in interest rates, the shape of the yield curve, and interest rate volatilities and how they affect the portfolio. I think…
B baby…stylized scenarios has to do, as I recall, with “off the shelf” models that replicate multiple factors being changed Factor push…pushes only one factor Worst Case…doomsday scenario LOS Explanation Stress testing can take two forms, 1) scenario analysis and 2) stressing models. Scenario analysis is used to measure the effect on the portfolio of simultaneous movements in several factors or to measure the effects of unusually large movements in individual factors. Potential weaknesses include the inability to accurately measure by-products of major factor movements or include the effects of simultaneous adverse movements in risk factors. There are three forms of stressing models: factor push models, maximum loss optimization, and worst case scenarios. In factor push analysis, the analyst deliberately pushes a factor or factors to the extreme and measures the impact on the portfolio. Maximum loss optimization involves identifying risk factors that have the greatest potential for impacting the value of the portfolio and moving to protect against those factors. Worst-case scenario is exactly that; the analyst pushes all risk factors to their worst cases to measure the absolute worst case for the portfolio. Since stressing models are just another version of scenario analysis, they suffer from the same potential problems.