Brain Teasers

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Brain Teasers

• You have eight balls and a balance scale. One of
  the balls is heavier than the other 7. What is
  the lowest number of weighings on the scale that
  you need to do in order to determine which ball
  is heaviest?

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Answer

• Two
• Weigh 3 against 3. Either you have a set of 3
  that is heavier than the other, or you know the
  heavier ball is in the remaining 2
• From the remaining 3 or 2, weigh 1 against 1.
  Then you will determine the heavier ball.

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Announcements

• Upcoming Presentations
• Technicals
• Alumni Mingle
• MIT Trading Competition

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Market Update The Macro View
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Quantitative Finance Society

• Portfolio Strategies Asset Correlations

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Investment Objective Why?

• Absolute Return
• Hedge Funds
• Relative Return
• Mutual Funds, Asset Management
• Retirement, Pensions, Insurance
• Asset-Liability Management

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Absolute Return Strategies

• Equity-Focused
• Value-investing
• Event-driven, Merger/Risk Arbitrage
• Long/short 130/30
• Equity pairs trading 100/100 (market-neutral)
• Fixed Income
• Distressed debt/high yield
• Convertible arbitrage
• Pricing arbitrage
• Value credit

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Absolute Return Strategies

• Global Macro
• FX, Government Rates
• Sovereign Debt (Credit Rates)
• Emerging Markets Funds
• Commodity Funds (Physical Futures)
• Index ETF Relative-Value

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Absolute Return Strategies

• Quantitative
• Volatility, Derivative arbitrage
• Algorithmic, High-Frequency trading
• Statistical arbitrage
• Technical analysis, momentum-based

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Relative Return Strategies

• Mutual Funds Asset Management
• Most active managers underperform the market
• Invest in SP 500 or other index
• Passive management, cheaper fees and lower
  transaction costs
• Asset allocation decisions are more important
  than single-stock selection
• Risk-adjusted returns come from diversification

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Relative Return Strategies

• Portfolio Theory
• Fixed Allocation (long-term historical)
• Long-term mean-variance optimization
• Efficient markets
• Adaptive Allocation (short-term historical)
• Markets change over time because of investor
  behavior
• Use trailing returns, correlations and volatility
  data instead
• Tactical Allocation (historical
  forward-looking)
• Forecast the market and incorporate your view
  into the allocation
• Market timing
• Black-Litterman model

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Asset Classes Correlations

• Equity (Domestic, Intl)
• Fixed Income (Domestic, Intl)
• Cash, FX, Money-market funds
• Commodities
• Metals, Agriculturals, Energy, Softs
• Real Estate

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Asset Classes Correlations
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Asset-Liability Management

• Retirement Pension Funds
• Need to pay out fixed pension benefits or
  retirement benefits (annuities/perpetuities)
• Must invest in securities to match the payments
• Insurance companies
• Receive fixed insurance payments forever, in
  exchange for low-probability high-payout
• Reinsurance to spread risk

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Asset-Liability Management

• Fixed-income portfolio immunization
• Duration-hedging
• Convexity-hedging

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Questions?