FINANCIAL ANALYSIS

With reference to

A STUDY ON ‘RISK MANAGEMENT SYSTEM FOR INVESTMENT

PORTFOLIO MANAGERS’ IN INDIA WITH REFERENCE TO KARVY
STOCK BROKING LIMTED
A Project report submitted to the
Of requirement for the award of Degree of

MASTER OF BUSINESS ADMINSTRATIVE

Submitted by

CHANDAN KUMAR

Under the Esteemed Guidance of

MAMTA CHAWALA

Asst. Professor

AMITY GLOBAL BUSINESS SCHOOL

(2016-2018)
 DECLARATION

I hereby declare that the project entitled A STUDY ON "RISK MANAGEMENT SYSTEM
FOR INVESTMENT PORTFOLIO MANAGERS" with reference to “KARVY STOCK
BROKING LTD”, submitted by me in partial fulfillment for the award of degree of Master
of Business Administration to the Department of M.B.A., AMITY GLOBAL BUSINESS
SCHOOL, Nodia is genuine and bonafide work done by me and it is not previously
submitted by me for the award of degree or diploma in any other institute or university.

Place: Nodia CHANDAN KUMAR

Date:
 ACKNOWLEDGEMENT

In the presentation of this report I recall with a sincere gratitude to each of those who
have been a sources of immense help and inspiration during the process of my project work.

A special thanks to Director of AMITY GLOBAL BUSINESS SCHOOL, And Head of the
department PROF. Grish Kutaria for helpful comments and information regarding the project
and documentation of the project.

A special thanks to faculty cum project guide madam for helpful comments and
information regarding the logic and documentation of the project.

I owe my sincere thanks to the MR. NAGI REDDY sir zonal head manager.

I am thankful to all my friends and my parents who helped me in completing the

project work.
CONTENTS

CHAPTER- 1

 INTRODUCTION
 NEED FOR THE STUDY
 OBJECTIVES
 SCOPE OF THE STUDY
 METHODOLOGY
 LIMITATIONS
 FRAME WORK OF THE STUDY

CHAPTER- 2
 INDUSTRY PROFILE
 COMPANY PROFILE

CHAPTER- 3
 THEORITICAL FRAMEWORK

CHAPTER-4
 DATA ANALYSIS AND INTERPRETATIONS

CHAPTER- 5
 SUMMARY
 FINDINGS
 SUGGESTIONS
 CONSLUSION

BIBLIOGRAPHY
ANNEXURE
 INTRODUCTION
 NEED FOR THE STUDY
 OBJECTIVES
 SCOPE FOR THE STUDY
 METHODOLOGY
 LIMITATIONS
 FRAMEWORK OF THE STUDY
INTRODUCTION

India can boast of being one of the oldest stock markets in Asia. Earlier in the initial days
trading in securities was done in a Very informal or Unsystematic manner Company agents or
representatives representing different corporate Companies, already listed in the “Stock
Exchange”. These representatives has to openly outcry the necessary details about the
company and give a brief description of the number of shares allotted to issue and their
quoted prices. After this the bidding process takes Place.
This system was lacking the information technology for immediate matching or
recording of trades. This was time consuming and inefficient. In order to provide efficiency,
liquidity and transparency, NSE (National Stock Exchange) introduced a nationwide online
fully automated screen based trading system (SBTS) where a member can punch into the
computer Quantities of securities and the prices at which he likes to transact and the
transaction is executed as soon as it finds matching sell or buy orders from a Counter party.

Today India can boast that almost 100% trading takes place through Electronic
order matching. NSE has main computer which is connected through Very Small Aperture
Terminal (VSAT) installed at its office. Brokers have terminals (identified as PCs) installed
at their premises which are connected through VSATS/ Leased Lines/ Modems.
With the emergence of online trading in Indian Stock Exchanges the volume of the
securities traded, the size of the market and the market turnover has increased tremendously.
This accounts for about 2/3rd of the National Income of the Economy.

We tend to think of risk in predominantly negative terms, as something to be avoided or as a

threat that we hope won't materialize. In the investment world, however, risk is inseparable
from performance and, rather than being desirable or undesirable, is simply necessary.
Understanding risk is one of the most important parts of a financial education. This section
will examine ways in which we measure and manage risk in making investment decisions.

A common definition for investment risk is "deviation from an expected outcome." We can
express this deviation in absolute terms or relative to something else like a
market benchmark. Deviation can be positive or negative, and it relates to the idea of "no
pain, no gain" - to achieve higher returns in the long run, you have to accept more short-
term volatility. How much volatility depends on your risk tolerance - an expression of
the capacity to assume volatility based on specific financial circumstances and
the propensity to do so, taking into account your psychological comfort with uncertainty and
the possibility of incurring large short-term losses.

The management of risk data and information is key to the success of any risk management
effort regardless of an organization's size or industry sector. Risk management information
systems/services (RMIS) are used to support expert advice and cost-effective information
management solutions around key processes such as:

 Risk identification and assessment

 Risk control
 Risk financing

Typically, RMIS facilitates the consolidation of information related to insurance, such as

claims from multiple sources, property values, policy information, and exposure information,
into one system. Often, RMIS applies primarily to “casualty” claims/loss data systems. Such
casualty coverage’s include auto liability, auto physical damage, workers' compensation,
general liability and products liability.

RMIS products are designed to provide their insured organizations and their brokers with
basic policy and claim information via electronic access, and most recently, via the Internet.
This information is essential for managing individual claims, identifying trends, marketing an
insurance program, loss forecasting, actuarial studies and internal loss data communication
within a client organization. They may also provide the tracking and management reporting
capabilities to enable one to monitor and control overall cost of risk in an efficient and cost-
effective manner.

In the context of the acronym RMIS, the word “risk” pertains to an insured or self-insured
organization. This is important because prior to the advent of RMIS, insurance company loss
information reporting typically organized loss data around insurance policy numbers. The
historical focus on insurance policies detracted from a clear, coherent and consolidated
picture of a single customer's loss experience. The advent of the first PC and UNIX based
standalone RMIS was in 1982, by Mark Dorn, under the trade name RISKMASTER. This
began a breakthrough step in the insurance industry's evolution toward persistent and focused
understanding of their end-customer needs.
NEED FOR THE STUDY

• Contribute to the team process, to identify and prioritise potential risk events.

• Use established risk management methods, tools and techniques to assist in the analysis and
reporting of identified risk events.

• Determine levels of risk in accordance with risk matrix used by the organisation.

• Consider the importance of the activity, its outcomes and the degree of control over the
risks.

• Consider potential and actual losses which may arise from the risk.

• Take into account benefits and opportunities presented by the risk.

• Develop and document risk management strategies.

OBJECTIVES FOR THE STUDY

• To identify and priorities potential risk events

• Help develop risk management strategies and risk management plans

• Use established risk management methods, tools and techniques to assist

• In the analysis and reporting of identified risk events

• Find ways to identify and evaluate risks

• Develop strategies and plans for lasting risk management strategies

SCOPE FOR THE STUDY

Risk Management is applied in two major areas in an ICT environment:

· New projects: When launching such projects, Risk Management is applied during
all phases of each project.

· Ongoing operations: When projects deliver products or services that become part
of an ICT Unit’s regular operations, Risk Management is also applied to those
operations.

The Project Management Institute’s Guidelines for Project Management cover 9 areas of
knowledge that a Project Manager must master. One of these is Risk Management. The
approach of this segment is to use the 6 processes proposed by the Project Management
Institute:
1. Risk Management Planning: Prepares the Ministry or Agency for the procedures
needed to manage risks.

2. Risk Identification: Allows the Ministry or Agency to identify the various risks and
categorize them according to a suitable and controllable structure.s

3. Qualitative Risk Analysis: Analyzes all risks and their impact going through a
computational procedure to reach relative exposure of project or operation to the various
risks.

4. Quantitative Risk Analysis: Presents an additional set of quantitative techniques

that supplement the main procedure in Qualitative Analysis.

5. Risk Response Planning: Presents the processes needed to respond to every risk.

6. Risk Monitoring/Control: Presents the procedures needed to monitor and track

risks, revising the Risk Analysis Table and learning from the various results.
METHODOLOGY OF THE STUDY

Type of the study:

This is a descriptive study; analysis is made on the basis of primary data and
secondary data.

Primary data:

Data is collected by interviews and direct discussions with clients, employees and
staff in the office.

Secondary data:

1. NCFM modules

2. Journals and books

3. Websites of religare securities ltd, NSE, BSE, MCX ETC.

Data collected from NSE, BSE and other stock exchanges through internet along with the
previous reports and journals and NCFM course modules.

In this project, I have used secondary data most of which was obtained from internal records
of the company, usage of secondary data enjoys some advantages but it suffers some
limitations.
LIMITATIONS OF THE STUDY

Once implemented correctly, Risk Management will improve various activities and prepare
us for future uncertainties, but there are limitations to Risk Management Schemes.

Accidents occur no matter how much we prepare for them,

It will not defer all risk from the organisation,

It aids decision making, it doesn’t make decisions.

From this we can see that no matter how hard a business tries, risk cannot be completely
removed. In fact, the only way to completely remove risks is to stop operations altogether as
there will be no resources left to be put in vulnerable positions (yet this would quite
obviously be a terrible decision). Even by conducting day-to-day operations, organisations
are still subject to risk.

But risk management isn’t about trying to remove all risks from a business. Risk management
will reduce the likelihood and impact of risks allowing us to be fully prepared when negative
risk arises, not remove them completely.
FRAME WORK OF THE STUDY

 First chapter deals with introduction of the RISK MANAGEMENT SYSTEM which
include need, objectives, Limitations and methodology

 Second chapter deals with industry profile and company profile.

 Third chapter deals with Theoretical framework

 Fourth chapter deal with data analysis and interpretation.

 Fifth chapter deals with Findings, suggestions and conclusion.

INDUSTRY PROFILE
 India can boast of being one of the oldest stock markets in Asia. Earlier in the
initial days trading in securities was done in a Very informal or Unsystematic manner
Company agents or representatives representing different corporate Companies, already listed
in the “Stock Exchange”. These representatives has to openly outcry the necessary details
about the company and give a brief description of the number of shares allotted to issue and
their quoted prices. After this the bidding process takes Place.
This system was lacking the information technology for immediate matching or
recording of trades. This was time consuming and inefficient. In order to provide efficiency,
liquidity and transparency, NSE(National Stock Exchange) introduced a nationwide online
fully automated screen based trading system(SBTS) where a member can punch into the
computer Quantities of securities and the prices at which he likes to transact and the
transaction is executed as soon as it finds matching sell or buy orders from a Counter party.

Today India can boast that almost 100% trading takes place through Electronic
order matching. NSE has main computer which is connected through Very Small Aperture
Terminal (VSAT) installed at its office. Brokers have terminals (identified as PCs) installed
at their premises which are connected through VSATS/ Leased Lines/ Modems.
With the emergence of online trading in Indian Stock Exchanges the volume of the
securities traded, the size of the market and the market turnover has increased tremendously.
This accounts for about 2/3rd of the National Income of the Economy

HISTORICAL BACKGROUND OF STOCK EXCHANGE

A stock exchange is an exchange where stock brokers and traders can buy and/or sell stocks
(also called shares), bonds, and other securities. Stock exchanges may also provide facilities
for issue and redemption of securities and other financial instruments, and capital events
including the payment of income and dividends. Securities traded on a stock exchange
include stock issued by listed companies, unit trusts, derivatives, pooled investment products
and bonds. Stock exchanges often function as "continuous auction" markets, with buyers and
sellers consummating transactions at a central location, such as the floor of the exchange. To
be able to trade a security on a certain stock exchange, it must be listed there. Usually, there
is a central location atleast for record keeping, but trade is increasingly less linked to such a
physical place, as modern markets use electronic networks, which gives them advantages of
increased speed and reduced cost of transactions. Trade on an exchange is restricted to
brokers who are members of the exchange. In recent years, various other trading venues, such
as electronic communication networks, alternative trading systems and "dark pools" have
taken much of the trading activity away from traditional stock exchanges. The initial public
offering of stocks and bonds to investors is by definition done in the primary market and
subsequent trading is done in the secondary market. A stock exchange is often the most
important component of a stock market. Supply and demand in stock markets are driven by
various factors that, as in all free markets, affect the price of stocks(see stock
valuation).There is usually no obligation for stock to be issued via the stock exchange itself,
nor must stock be subsequently traded on the exchange. Such trading may be off exchange or
over the counter. This is the usual way that derivatives and bonds are traded. Increasingly,
stock exchanges are part of a global securities market.

The idea of debt dates back to the ancient world, as evidenced for example by ancient
Mesopotamian clay tablets recording interest bearing loans. There is little consensus among
scholars as to when corporate stock was first traded. Some see the key event as the Dutch
East India Company's founding in 1602, while others point to earlier developments.
Economist Ulrike Malmendier of the University of California at Berkeley argues that a share
market existed as far back as ancient Rome.In the Roman Republic, which existed for
centuries before the Empire was founded, there were societates publicanorum, organizations
of contractors or lease holders who performed temple building and other services for the
government. One such service was the feeding of geese on the Capitoline Hill as a reward to
the birds after their honking warned of a Gallic invasion in 390 B.C. Participants in such
organizations had partes or shares, a concept mentioned various times by the statesman and
orator Cicero. In one speech, Cicero mentions "shares that had a very high price at the time."
Such evidence, in Malmendier's view, suggests the instruments were
tradable, with fluctuating values based on an organization's success. The societas declined
into obscurity in the time of the emperors, as most of their services were taken over by direct
agents of the state.Tradable bonds as a commonly used type of security were a more recent
innovation, spearheaded by the Italian city states of the late medieval and early Renaissance
period.

Stock exchanges have multiple roles in the economy.

Raising capital for businesses

A stock exchange provides companies with the facility to raise capital for expansion through
selling shares to the investing public.

Common forms of capital raising

Besides the borrowing capacity provided to an individual or firm by the banking system, in
the form of credit or a loan, there are four common forms of capital raising used by
companies and entrepreneurs. Most of these available options might be achieved, directly or
indirectly, through a stock exchange.

Going public

Capital intensive companies, particularly high tech companies, always need to raise high
volumes of capital in their early stages. For this reason, the public market provided by the
stock exchanges has been one of the most important funding sources for many capital
intensive startups. After the 1990s and early2000shitechlisted companies' boom and bust in
the world's major stock exchanges, it has been much more demanding for the high tech
entrepreneur to take his/her company public, unless either the company already has products
in the market and is generating sales and earnings, or the company has completed advanced
promising clinical trials, earned potentially profitable patents or conducted market research
which demonstrated very positive outcomes. This is quite different from the situation of the
1990s to early2000s period, when a number of companies (particularly Internet boom and
biotechnology companies) went public in the most prominent stock exchanges around the
world, in the total absence of sales, earnings and any well documented promising outcome.
Anyway, every year a number of companies, including unknown highly speculative and
financially unpredictable hitech startups, are listed for the first time in all the major stock
exchanges – there are even specialized entry markets for these kind of companies or stock
indexes tracking their performance (examples include the Alter next, CAC Small, SDAX,
Tec DAX, or most of the third market good companies).

Limited partnerships

A number of companies have also raised significant amounts of capital through R&D limited
partnerships. Tax law changes that were enacted in 1987 in the United States changed the tax
deductibility of investments in R&D limited partnerships. In order for a partnership to be of
interest to investors today, the cash on cash return must be high enough to entice investors.

Venture capital

A third usual source of capital for startup companies has been venture capital. This source
remains largely available today, but the maximum statistical amount that the venture
company firms in aggregate will invest in any one company is not limitless (it was
approximately $15 million in 2001 for a biotechnology company).

However, when poor financial, ethical or managerial records are known by the stock
investors, the stock and the company tend to lose value. In the stock exchanges, share holders
of underperforming firms are often penalized by significant share price decline, and they tend
as well to dismiss incompetent management teams

Creating investment opportunities for small investors

As opposed to other businesses that require huge capital outlay, investing in shares is open to
both the large and small stock investors because a person buys the number of shares they can
afford. Therefore, the Stock Exchange provides the opportunity for small investors to own
shares of the same companies as large investors.

Government capital raising for development projects

Governments at various levels may decide to borrow money to finance infrastructure projects
such as sewage and water treatment works or housing estates by selling another category of
securities known as bonds. These bonds can be raised through the stock exchange whereby
members of the public buy them, thus loaning money to the government. The issuance of
such bonds can obviate, in the short term, direct taxation of citizens to finance
development—though by securing such bonds with the full faith and credit of the government
instead of with collateral, the government must eventually tax citizens or otherwise raise
additional funds to make any regular coupon payments and refund the principal .
Bombay Stock Exchange

The Bombay Stock Exchange (BSE) is an Indian stock exchange located at Dalal Street, Kala
Ghoda, Mumbai, Maharashtra, India. Established in 1875, the BSE is Asia’s first stock
exchange. It claims to be the world's fastest stock exchange, with a median trade speed of 6
microseconds.[2] The BSE is the world's 11th largest stock exchange with an overall market
capitalization of $2 trillion as of July, 2017.[3] More than 5500 companies are publicly listed
on the BSE.

The Bombay is the oldest exchange in Asia. Its history dates back to 1855, when five
stockbrokers would gather under banyan trees in front of Mumbai's Town Hall. The location
of these meetings changed many times to accommodate an increasing number of brokers. The
group eventually moved to Dalal Street in 1874 and in became an official organization known
as "The Native Share & Stock Brokers Association" in 1875.On August 31, 1957, the BSE
became the first stock exchange to be recognized by the Indian Government under the
Securities Contracts Regulation Act. In 1980, the exchange moved to the Phiroze
Jeejeebhoy Towers at Dalal Street, Fort area. In 1986, it developed the BSE SENSEX index,
giving the BSE a means to measure the overall performance of the exchange. In 2000, the
BSE used this index to open its derivatives market, trading SENSEX futures contracts. The
development of SENSEX options along with equity derivatives followed in 2001 and 2002,
expanding the BSE 'strading platform. Historically an open outcry floor trading exchange,
the Bombay Stock Exchange switched to an electronic trading system developed by CMC
Ltd. in 1995. It took the exchange only 50 days to make this transition. This automated,
screen based trading platform called BSE On Line Trading (BOLT )had a capacity of 8
million orders per day. The BSE has also introduced a centralized exchange based internet
trading system, BSEWEBx.co.in to enable investors anywhere in the world to trade on the
BSE platform.[4]The BSE is also a Partner Exchange of the United Nations Sustainable
Stock Exchange initiative ,joining in September 2012.

Awards & Recognitions

 Skoch Achiever Award 2016 for SME Enablement

 Best IT Implementation Award 2016 in the “Most Complex Project Category” by
PCQuest
 InfoSec Maestros Awards 2016 .
 Lions CSR Precious Awards 2016
 Golden Peacock Award 2015
 CIO Power List 2015
 SKOCH Rennaissance Award 2014 for Contribution to Economy
 India Innovative Awards- Big Data Innovation 2014
 HR was awarded with Asia's Best Employer Brand Awards at Singapore in two
categories in August, 2014

o Asia's Best Employer Brand Award

o CHRO of the Year Award

 India Innovation Award for Big Data Implementation

 BSE has won NASSCOM - CNBC-TV18’s IT User Awards, 2010 in Financial Services
category

 National Stock Exchange of India.

 The National Stock Exchange of India Limited (NSE) is the leading stock exchange of
India, located in Mumbai. NSE was established in 1992 as the first demutualized
electronic exchange in the country. NSE was the first exchange in the country to provide
a modern, fully automated screen based electronic trading system which offered easy
trading facility to the investors spread across the length and breadth of the country.

 National Stock Exchange has a total market capitalization of more than US$1.65 trillion,
making it the world’s 12th largest stock exchange as of 23 January 2015. NSE's flagship
index, the CNX Nifty ,the 51 stock index, is used extensively by investors in India and
around the world as a barometer of the Indian capital markets.NSE was set up by a group
of leading Indian financial institutions at the behest of the government of India to bring
transparency to the Indian capital market. Based on the recommendations laid out by the
government committee, NSE has been established with a diversified shareholding
comprising domestic and global investors. The key domestic investors include Life
Insurance Corporation of India, State Bank of India, IFCI Limited IDFC Limited and
Stock Holding Corporation of India Limited. And the key global investors are Gagil FDI
Limited, GS Strategic Investments Limite SAIF II SE Investments Mauritius Limited,
Aranda Investments (Mauritius) Limited and Opportunities Fund I.NSE offers trading,
clearing and settlement services in equity, equity derivatives, debt and currency
derivatives segments. It is the first exchange in India to introduce electronic trading
facility thus connecting together the investor base of the entire country. NSE has 2500
VSATs and 3000 leased lines spread over more than 2000 cities across India.The
exchange was incorporated in 1992 as a taxpaying company and was recognized as a
stock exchange in 1993 under the Securities Contracts (Regulation) Act, 1956, when P.
V. Narasimha Rao was the Prime Minister of India and Manmohan Singh was the
Finance Minister. NSE commenced operations in the Wholesale Debt Market (WDM)
segment in June 1994. The capital market (equities) segment of the NSE commenced
operations in November 1994, while operations in the derivatives segment commenced in
June 2000.
 NSE offers trading in the following segments:
 Equities
 Indices
 Mutual Funds
 Exchange Traded Funds
 Initial Public Offerings
 Security Lending and Borrowing Scheme
 Derivatives
 Equity Derivatives (including Global Indices like CNX 500, Dow Jones and FTSE )
 Currency Derivatives
 Interest Rate Future

Equity Derivatives

 The National Stock Exchange of India Limited (NSE) commenced trading in derivatives
with the launch of index futures on 12 June 2000. The futures and options segment of
NSE has made a global mark. In the Futures and Options segment, trading in NIFTY 50
Index, NIFTY IT index, NIFTY Bank Index, NIFTY Next 50 index and single stock
futures are available. Trading in Mini Nifty Futures & Options and Long term Options on
NIFTY 50 are also available. The average daily turnover in the F&O Segment of the
Exchange during the financial year April 2013 to March 2014 stood at ₹1.52236 trillion
(US$23 billion).

Debt Market

 On 13 May 2013, NSE launched India's first dedicated debt platform to provide a liquid
and transparent trading platform for debt related products.The Debt segment provides an
opportunity to retail investors to invest in corporate bonds on a liquid and transparent
exchange platform. It also helps institutions who are holders of corporate bonds. It is an
ideal platform to buy and sell at optimum prices and help Corporates to get adequate
demand, when they are issuing the bonds.

Trading schedule

 Trading on the equities segment takes place on all days of the week (except Saturdays and
Sundays and holidays declared by the Exchange in advance).
The market timings of the equities segment are:

 (1) Preopensession

 (2) Regular trading session

 Exchange Traded Funds and Derivatives on National Stock Exchange

 The following products are trading on CNX Nifty Index in the Indian and international
Market:
 7 Asset Management Companies have launched exchange traded funds on CNX Nifty
Index which are listed on NSE
 15 index funds have been launched on CNX Nifty Index
 Unit linked products have been launched on CNX Nifty Index by several insurance
companies in India
 World Indies
 Derivatives Trading on NIFTY 50 Index:
 Futures and Options trading on CNX Nifty Index
 Trading in NIFTY 50 Index Futures on Singapore Stock Exchange(SGX)


OTC Exchange of India

The OTC Exchange Of India (OTCEI), also known as the Over the Counter Exchange of
India, is based in Mumbai, Maharashtra. It is India's first exchange for small companies, as
well as the first screen based nation wide stock exchange in India. OTCEI was set up to
access high technology enterprising promoters in raising finance for new product
development in a cost effective manner and to provide a transparent and efficient trading
system to investors. OTCEI is promoted by the Unit Trust of India, the Industrial Credit and
Investment Corporation of India, the Industrial Development Bank of India, the Industrial
Finance Corporation of India, and other institutions, and is a recognized stock exchange
under the SCR Act.

History
The OTC Exchange Of India was founded in 1990[3] under the Companies Act 1956 and was
recognized by the Securities Contracts Regulation Act, 1956 as a stock exchange.

Multi Commodity Exchange

Multi Commodity Exchange of India Ltd (MCX) (BSE: 534091)
(http://www.bseindia.com/stockshareprice/x/y/534091/) is an independent commodity
exchange based in India. It was established in 2003 and is based in Mumbai. It is India's
largest commodity futures exchange where the clearance and settlements of the exchange
happens and the turnover of the exchange for the year 2015 was 55.52 trillion rupees (865.55
billion US dollars). MCX offers futures trading in bullion, nonferrous metals, energy, and a
number of agricultural commodities (mentha oil, cardamom, crude palm oil, cotton and
others).In 2015, MCX was sixth among the global commodity bourses in terms of the number
of futurescontracts traded, the latest yearly data from Futures Industry Association (FIA)
showed. In February 2012, MCX had come out with a public issue of 6,427,378 Equity
Shares of Rs. 10 face value in price band of Rs. 860 to Rs. 1032 per equity share to raise
around $134 million. It was the first ever IPO by an Indian exchange and made MCX India’s
only publicly listed exchange. From September 28, 2015, MCX is being regulated by the
Securities and Exchange Board of India (SEBI). Earlier MCX was regulated by the Forward
Markets Commission (FMC), which got merged with the SEBI on September 28, 2015.MCX
is India's No. 1 commodity exchange with 88.8% market share in quarter ended June 30,2016
In 2015, the futures contracts on Gold, Silver, Copper, Crude Oil offered by MCX ranked
among the top 20 global futures contracts in their respective segments (2015 FIA
AnnualVolume Survey).MCX has several strategic alliances with leading exchanges across
the globe During the quarter ended June 30, 2016, the average daily turnover of MCX was
245.91 billion rupees (3.67 billion US dollars) MCX now reaches out to more than 1700
cities and towns in India through more than 585,000 trading terminals (including CTCL) (as
on March 31, 2016) MCX COMDEX is India's first and only composite commodity futures
price index.
 COMPANY PROFILE

ABOUT KARVY
One fateful evening in the summer of 1982, 5 young men who worked for a renowned
chartered accountancy firm decided that it was time they struck out on their own to create an
enterprise that would someday become an iconic name in the financial services space.
They came from ordinary middle class backgrounds. They had two assets; one was their
education and the other an unquenchable desire to succeed. They had a lot stacked against
them: the environment was not conducive to entrepreneurship; technology was not fully
supportive, financial markets were largely unregulated, they were based out of Hyderabad
while most key players in the financial world were in Mumbai or other metros and the wolf
was at the door. The odds seemed insurmountable.
These remarkable young men’s “Never say die” approach held them in good stead over the
years. They stuck to their dreams, burnt the midnight oil, embraced technology and made it
work for them and through sheer dint of determination, eventually overcame all obstacles.
First came the registry business, followed by broking, and the rest became a lesson for every
young individual to emulate.

PROMOTERS & MANAGEMENT TEAM

MR.C.PARTHASARATHY CHAIRMAN&MANAGING DIRECTOR
MR.M.YUGANDHAR MANAGING DIRECTOR
MR.M.S.RAMAKRISHNA DIRECTOR

MANAGEMENT TEAM
MR.V.MAHESH GROUP HEAD-DIRECTOR
MR.V.GANESH GROUP HEAD-MANAGEING
DIRECTOR-KARVY
DATAMANAGEMENT
MR.AMIT SAXENA GROUP HEAD-CEO-KARVY
COMPUTERSHARE
MR.SUSHIL SINHA GROUP HEAD-WHOLETIME DIRECTOR-
KARVY FINANCE
MR.P.B.RAMAPRIYAN GROUP HEAD- VICE-
PRESIDENT&FINANCIAL PRODUCT
DISRTIBUTION
MR.RAJIV R.SINGH GROUP HEAD-VICE
PRESIDENT&BUSINESS Head-KARVY
STOCK BROKING LIMITED
MR.J.RAMASWAMY GROUP HEAD-CORPORATE AFFAIRS
MR.DEEPAK GUPTHA GROUP HEAD-HR
MR.G.KRISHNA HARI GROUP HEAD-FINANCE
WHO WE ARE
The Karvy Group is today a well diversified conglomerate. Its businesses straddle the entire
financial services spectrum as well as data processing and managing segments. Since most of
its financial services were retail focused, the need to build scale and skill in the transaction
processing domain became imperative. Also during stressed environment in the financial
services segment, the non financial businesses bring in a lot of stability to the group’s
businesses.
Karvy’s financial services business is ranked among the top-5 in the country across its
business segments. The Group services over 70 million individual investors in various
capacities, and provides investor services to over 600 corporate houses, comprising the best
of Corporate India.
The Group offers stock broking, depository participant, distribution of financial products
(including mutual funds, bonds and fixed deposits), commodities broking, personal finance
advisory services, merchant banking & corporate finance, wealth management, NBFC (loans
to individuals, micro and small businesses), Data management, Forex & currencies, Registrar
& Transfer agents, Data Analytics, Market Research among others.
Karvy prides itself on remaining customer centric as all times through a combination of
leading edge technology, Professional management and a wide network of offices across
India.
Karvy is committed to its quest as an Equal Opportunity Employer and believes in the rights
for differently-abled persons. We have over 12% employees who are challenged in some
form in one of our prominent businesses.

WHY KARVY

Karvy’s business entities address a heterogeneous swathe of population from the super rich,
to the nouveau riche, the ubiquitous middle class, the lower classes (the SEC E3 according to
the new Social Economic Classification), urban and the rural folks. All of whom either make
a living through large business (corporate world), SMEs, professional services, traders,
farmers, labour, blue and white collar jobs and the government.
Another key feature of Karvy has been its ability to offer leading edge advice based on
incisive ideas that are strongly rooted in high quality research on every conceivable aspect of
investments be it equities, forex, commodities, bonds, fixed returns, debt instruments or any
other investment grade asset class.
The customer has always been at the centre of every Karvy initiative.

KARVY GROUP
The Karvy Group is a premier integrated financial services provider, ranked among the top-5
in the country across its business segments. The Group services over 70 million individual
investors in various capacities, and provides investor services to over 600 corporate houses.
Karvy Group established its presence through a wide network of over 450 branches, (or 900
offices) covering in excess of 400 cities and towns.
Karvy covers the entire spectrum of financial services, viz stock broking, depository
participant, distribution of financial products (including mutual funds, bonds and fixed
deposits), commodities broking, personal finance advisory services, merchant banking &
corporate finance, wealth management, NBFC, among others.
The Group is professionally managed and ranks among the best in technology, operations and
research across the financial industry. The Karvy Group has evolved over the last
three decades and today it assumes many avatars. Broadly the group pursues two lines of
businesses and can be graphically represented as follows:

KARVY COMPANIES

Karvy Stock Broking LTD

Equity Broking, Depository Participant, Distribution of Financial Products (Mutual Funds,
FD and Bonds), Wealth Management Services, Currency Derivatives, Portfolio Management
Services
Karvy Comtrade LTD
Commodities Broking
Karvy Capital LTD
Karvy Investment Advisory Services LTD(Formerly known as Karvy Insurance
Broking LTD)
Investment Advisory Services
Karvy Holdings LTD
Core Investment Company
Karvy Middle East LLC
Wealth Management Products for NRI's
Karvy Realty (India) LTD
Realty Services
Karvy Financial Services LTD
Non Banking Financial Services
Karvy Insurance Repository LTD
Insurance Repository services

Karvy Forex & Currencies Private LTD

Currency and forex services
Karvy Consultants LTD
Consultancy and Advisory Services, Publications
Karvy Computershare Private LTD
Registrar and Share Transfer agent
Karvy Computershare W.L.L( Formerly known as Fakhro Karvy Computershare
W.L.L )
Agent for Custody & Registration of Securities, Registered Administrator
Karvy Data Management Services LTD
Data Management Services
Karvy Investor Services LTD
Merchant Banking and Corporate Finance
Karvy Insights LTD
Market Research
Karvy Analytics LTD
Analytics
Karvy Solar Power LTD
Power Generation
Karvy Global Services LTD
Business Process Outsourcing
Karvy Global Services Inc, USA
Business Process Outsourcing
Karvy Inc, USA
Institutional Broking

AWARDS & ACCOLADES

Mr. Rajat Parthasarathy, Director, Karvy Group and Mr. Rajiv Ranjan Singh, Vice-President
& Business Head - Stock Broking receiving awards from India’s premier stock exchange
BSE - the SKOCH – BSE Order of Merit award and the SKOCH – BSE Aspiring Nation
award - in recognition of its efforts to educate, empower and help create an enlightened corps
of financial market investors.
Mr. Sudhendoo Gandhi, GM, KSBL, receiving the "NSDL Star Performer Award 2014” for
Highest Asset Value

Mr. Sushil Sinha, Business Head, KCTL & Mr. Suresh Raval, General Manager, KCTL
receiving the ‘Broker with Best Corporate Desk for Commodity Broking’ award from
 Hon’ble Finance Minister then - Sri Pranab Mukerjee at the Bloomberg UTV Financial
Leadership Awards 2011

Mr. C Parthasarathy, Chairman, Karvy Group, receiving the ‘Largest E-Broking House in
India’ award at the Dun & Bradstreet – BSE Equity Broking Awards 2010.

Karvy Stock Broking Limited

AWARD YEAR
BEST DEPOSITORY PARTICIPANT IN 2004
THE COUNTRY
VIVEKANANDA NATIONAL AWARD 2006
AMITY CORPORATE EXCELLENCE 2007
LARGEST E-BROKING HOUSE IN INDIA 2010
BEST ANALYST IN BASE METAL 2011
CATEGORY
NSDL STAR PERFORMER AWARD 2014

About Us
 Among the top 3 depository participants.
 Among the top 10 investment bankers.

Karvy Stock Broking Limited (KSBL) which is the broking arm of Karvy Group, a well
diversified conglomerate whose business encompasses the entire financial services spectrum
along with data processing and managing segments.

Karvy’s financial services business is ranked among the top-five in the country across its
business segments. The Group services over 70 million individual investors in various
capacities and provides investor services to more than 600 corporate houses, comprising the
best of Corporate India.

Karvy prides itself on being extremely customer centric at all times providing leading edge
technology combined with professional management and servicing through a wide network
of offices across India.

Karvy Stock Broking Limited (KSBL) is among the country’s leading financial services
organizations renowned for its quality of investment and advice. KSBL through its wide
 network of offices across India offers customized investment solutions to corporate,
institutions and individual investors.

KSBL helps investors construct a portfolio by factoring in their risk profile and future
financial needs so that their investments achieve an optimal balance between risk and returns.

Our comprehensive trading account helps clients approach various investment avenues in an
integrated fashion, providing them the facility to transact with ease. We have a combined
account facility that caters to all investment opportunities such as trade in Equities,
Derivatives, Currency and also investing in IPOs, Mutual funds and NCDs.

KSBL was awarded BSE Order of Merit award and the SKOCH – BSE Aspiring Nation
award in recognition to its efforts to educate, empower and help create financial markets
literacy among investors. It has received the NSDL Star Performer Award 2014 for highest
asset value generated.
OUR ACCOLADES

 Winners of SKOCH-BSE Order of Merit award 2015

 Winners of SKOCH-BSE Aspiring Nation award 2015
 Won ‘NSDL Star Performer Award 2014 for Highest Asset Value’
 Won ‘Largest E-Broking House in India by Dun & Bradstreet 2010
 Won ‘Broker with Best corporate desk for commodity broking 2011’
 India’s no I registrar and securities transfer agent
 ISO 9002 Certified Operations by DNV
 Largest Independent Distributor
 Most of India’s 500 fortune companies are serviced by Karvy
 Every 20th trade in stock market is done on the Karvy platform
 Every 6th investor in India invests through Karvy.
 Amongst top 10 stock brokers in India.
The Karvy Group is a premier integrated financial services provider, ranked among the top-5
in the country across its business segments. The Group services over 70 million individual
investors in various capacities, and provides investor services to over 600 corporate houses.
Karvy Group established its presence through a wide network of over 450 branches, (or 900
offices) covering in excess of 400 cities and towns. Karvy covers the entire spectrum of
financial services, viz stock broking, depository participant, distribution of financial products
(including mutual funds, bonds and fixed deposits), commodities broking, personal finance
advisory services, merchant banking & corporate finance, wealth management, NBFC,
among others.
The Group is professionally managed and ranks among the best in technology, operations and
research across the financial industry.
The Karvy Group has evolved over the last three decades and today it assumes many avatars.
Broadly the group pursues two lines of businesses and can be graphically represented as
follows:

Financial Services
 Equity Broking
 Depository Participant
 Wealth Management
 Commodities Broking
 Currency Derivatives
 Non-banking Financial Services
 Distribution of Financial Products
 Realty
 Registry services for Corporate and Mutual funds
 Investment Banking
 Insurance Repository
 The Finapolis
 Forex & Currencies

Non-Financial Services
 Data Management Services
 International BPO
 Alternate Energy
 Data Analytics
 Market Research
THEORITICAL FRAMEWORK
Risk management system for equity portfolio managers:

Equity capital is a high risk-high reward, permanent source of long term finance for corporate
enterprises and short term earning for shareholders. The investors, who desire to share the
risk, return and control associated with ownership of companies would invest in equity
capital.

Today, the Indian Equity Market is one of the most technologically developed in the world
and is on par with other developed markets abroad. The introduction of on-line trading
system, dematerialization, ban of the bald system, and introduction of rolling settlement have
facilitated quick trading and settlements which lead to larger volumes. The setting up of the
National Stock Exchange of India Limited has revolutionized the face of the stock market.
NSE is the only stock exchange which covers majority equity investments every day.

Also equity capital market encourages capital formation in the country. The specific
factor, which influences equity market, is the investor’s sentiment towards the stock market
as a whole. So investor first has to analyze and invest and not speculate in shares. The
introduction of online trading has given a much-needed impetus to the Indian equity markets.
In this technological world things are needed to move at a faster pace, and with the
introduction of METHODS OF MARKETING SECURITIES IN THE EQUITY
MARKET, the stock exchange has expanded its business at a tremendous speed.

According to economic times, the research states the major reason behind the
irregularities of market (up and down in sale and purchase, price of share) is mainly
because of FORECASTING MIND SET OF EQUITY INVESTORS. So, the stock
exchanges must disregards the emotional component of trading by making investors
decisions based upon chart formations, assuming that prices reflect both facts and
emotion. And also by creating the awareness of fundamental analysis (Fundamental analysis
is a method of finding out the future price of a stock, which an investor wishes to buy) among
the investors to avoid the irregularities while trading.

So to increase the volume of equity investment, the stock exchanges should strive to increase
transparency, strictly enforce corporate governance norms, provide more value-added
services to investors, and take steps to increase investor confidence. These stock exchanges
will have to plan strategic tie-ups with their foreign counterparts to get an international
platform. A developed and vibrant secondary market can be an engine for the revival and
growth of the primary market. So, to encourage Indian investment and face international
competition every Indian stock exchange has to stress on innovation and sustained investment
in technology to remain ahead.

The Equity Portfolio Management refers to the planning and implementation of various
philosophies, methodologies, and strategies for beating the equity market. The primary
objective of all investment analysis is to take investment decisions or advise others for
making their own investment decisions. Thus, there exists a strong correlation between equity
portfolio management and science of equity analysis.

The portfolio managers are generally guarded by market capitalization guidelines and thus,
equity portfolio management involves understanding of the investment universe for selecting
the efficient investments.
Tax Sensitivity:
There are many institutional equity portfolios that are not taxable like pension funds. This
provides more managerial flexibility to portfolio managers as compared to taxable portfolios.
These non-taxable portfolios utilize greater exposure to short-term capital gains and dividend
income than their taxable counterparts.

Portfolio managers of taxable portfolios take special care of following factors:

· Stock holding periods

· Tax lots

· Capital losses

· Tax selling

· Dividend income generated by portfolios

In comparison to non-taxable portfolio, the taxable portfolios are more successful with a
lower portfolio turnover rate. The portfolio management activity plays a major part in
building and managing portfolios over time.
Building the Portfolio Model:
Building and maintaining a portfolio model is a common aspect of equity portfolio
management. It may involve running either one portfolio or many portfolios in one equity
investment product. The individual portfolios are matched against a portfolio model.

Every stock in the portfolio model is assigned a percentage weighting by a Portfolio manager.
It is followed by modifications of individual portfolios for matching against this weighting
mix. The computerization of Portfolio models is done by using either Microsoft Excel or
portfolio management software tools.

Achieving Portfolio Efficiency:

An equity portfolio manager can achieve analytic efficiency by running all the portfolios in a
similar way. The portfolio manager is required to have the knowledge and understanding of
30 or 40 stocks that are owned in comparable proportions in all portfolios instead of 100 or
200 stocks. The analysis of 30 or 40 stocks is easily applied to other portfolios by modifying
the model weights in the portfolio model with passage of time. The dynamic market causes
the rise and fall of individual stocks over time and the portfolio manager is required to change
the model weightings that for reflecting the investment decision in all portfolios.

Equity portfolio management involves the portfolio modeling as an effective way for
evaluating the key set of stocks to a set of portfolios in one group. It acts as an efficient link
between portfolio management and equity analysis. With the rise and fall in outlook of
individual stocks, the weightings of these stocks needs to be changed accordingly in the
portfolio model for optimizing the return of all portfolios in the group.

Related posts:

 Career in Portfolio Management

 Active Portfolio Management Strategy

Risk management system

Risk :- A probability or threat of damage, injury, liability, loss, or any other negative
occurrence that is caused by external or internal vulnerabilities, and that may be avoided
through pre-emptive action.
Finance :- The probability that an actual return on an investment will be lower than the
expected return. Financial risk is divided into the following categories: Basic risk, Capital
risk, Country risk, Default risk, Delivery risk, Economic risk, Exchange rate risk, Interest rate
risk, Liquidity risk, Operations risk, Payment system risk, Political risk, Refinancing risk,
Reinvestment risk, Settlement risk, Sovereign risk, and Underwriting risk.

Securities trading :- The probability of a loss or drop in value. Trading risk is divided
into two general categories: (1) Systemic risk affects all securities in the same class and is
linked to the overall capital-market system and therefore cannot be eliminated by
diversification. Also called market risk. (2) Non systematic risk is any risk that isn't market-
related or is not systemic. Also called nonmarket risk, extra-market risk, or unsystematic
risk.

Risk Management :- The identification, analysis, assessment, control, and avoidance,

minimization, or elimination of unacceptable risks. An organization may use risk assumption,
risk avoidance, risk retention, risk transfer, or any other strategy (or combination of
strategies) in proper management of future events.
Guidelines for Risk Management Process Review:

The purpose of risk management is to identify potential problems before they occur so that
risk-handling activities may be planned and invoked as needed across the life of the product
or project to mitigate adverse impacts on achieving objectives.

Risk management is a continuous, forward-looking process that is an important part of

business and technical management processes. Risk management should address issues that
could endanger achievement of critical objectives. A continuous risk management approach
is applied to effectively anticipate and mitigate the risks that have critical impact on the
project.

Effective risk management includes early and aggressive risk identification through the
collaboration and involvement of relevant stakeholders. Strong leadership across all relevant
stakeholders is needed to establish an environment for the free and open disclosure and
discussion of risk.

Although technical issues are a primary concern both early on and throughout all project
phases, risk management must consider both internal and external sources for cost, schedule,
and technical risk. Early and aggressive detection of risk is important because it is typically
easier, less costly, and less disruptive to make changes and correct work efforts during the
earlier, rather than the later, phases of the project.

Risk management can be divided into three parts: defining a risk management strategy;
identifying and analyzing risks; and handling identified risks, including the implementation
of risk mitigation plans when needed.

For the purpose of this review, please address the following points:

1. Demonstrate that you have a process to determine risk sources and categories:
Identification of risk sources provides a basis for systematically examining changing
situations over time to uncover circumstances that impact the ability of the project to meet
its objectives. Risk sources are both internal and external to the project. As the project
progresses, additional sources of risk may be identified. Establishing categories for risks
provides a mechanism for collecting and organizing risks as well as ensuring appropriate
scrutiny and management attention for those risks that can have more serious
consequences on meeting project objectives.
 Typical work products would include: (1) risk source lists (external and internal) and (2)
risk categories lists.

2. Demonstrate that you have a process to define the parameters used to analyze and
categorize risks, and the parameters used to control the risk management effort:
Parameters for evaluating, categorizing, and prioritizing risks typically include risk
likelihood (i.e., the probability of risk occurrence), risk consequence (i.e., the impact and
severity of risk occurrence), and thresholds to trigger management activities.

Risk parameters are used to provide common and consistent criteria for comparing the
various risks to be managed. Without these parameters, it would be very difficult to gauge
the severity of the unwanted change caused by the risk and to prioritize the necessary
actions required for risk mitigation planning.

Typical work products would include: (1) risk evaluation, categorization, and
prioritization criteria and (2) risk management requirements (control and approval levels,
reassessment intervals, etc.).

3. Demonstrate that you have a process to establish and maintain the strategy to be
used for risk management. A comprehensive risk management strategy addresses
items such as: (1) The scope of the risk management effort, (2) Methods and tools to be
used for risk identification, risk analysis, risk mitigation, risk monitoring, and
communication, (3) Project-specific sources of risks, (4) How these risks are to be
organized, categorized, compared, and consolidated, (5) Parameters, including likelihood,
consequence, and thresholds, for taking action on identified risks, (6) Risk mitigation
techniques to be used, such as prototyping, simulation, alternative designs, or
evolutionary development, (7) Definition of risk measures to monitor the status of the
risks, and (8) Time intervals for risk monitoring or reassessment.

The risk management strategy should be guided by a common vision of success that
describes the desired future project outcomes in terms of the product that is delivered, its
cost, and its fitness for the task. The risk management strategy is often documented in an
organizational or a project risk management plan. The risk management strategy is
reviewed with relevant stakeholders to promote commitment and understanding.

A typical work product would be the project risk management strategy.

What is Risk Management?

Risk Management is the process of identifying, analyzing and responding to risk factors
throughout the life of a project and in the best interests of its objectives. Proper risk
management implies control of possible future events and is proactive rather than reactive.

For example:
An activity in a network requires that a new technology be developed. The schedule indicates
six months for this activity, but the technical employees think that nine months is closer to
the truth. If the project manager is proactive, the project team will develop a contingency plan
right now. They will develop solutions to the problem of time before the project due date.
However, if the project manager is reactive, then the team will do nothing until the problem
actually occurs. The project will approach its six month deadline, many tasks will still be
uncompleted and the project manager will react rapidly to the crisis, causing the team to lose
valuable time.

Proper risk management will reduce not only the likelihood of an event occurring, but also
the magnitude of its impact. I was working on the installation of an Interactive Voice
Response system into a large telecommunications company. The coding department refused
to estimate a total duration estimation for their portion of the project work of less than 3
weeks. My approach to task duration estimation is that the lowest level task on a project
whose total duration is 3 months or more should be no more than 5 days. So… this 3 week
duration estimation was outside my boundaries. Nevertheless, the project team accepted it. It
appeared an unrealistic timeline for the amount of work to be done but they were convinced
that this would work. No risk assessment was conducted to determine what might go wrong.
Unfortunately, this prevented their ability to successfully complete their tasks on time. When
the 3 weeks deadline approached and it appeared that the work wouldn’t be completed, crisis
management became the mode of operation.

Risk Management Systems are designed to do more than just identify the risk. The system
must also be able to quantify the risk and predict the impact of the risk on the project. The
outcome is therefore a risk that is either acceptable or unacceptable. The acceptance or non-
acceptance of a risk is usually dependent on the project manager’s tolerance level for risk. If
risk management is set up as a continuous, disciplined process of problem identification and
resolution, then the system will easily supplement other systems. This includes; organization,
planning and budgeting, and cost control. Surprises will be diminished because emphasis will
now be on proactive rather than reactive management.

Risk Management…A Continuous Process

Once the Project Team identifies all of the possible risks that might jeopardize the success of
the project, they must choose those which are the most likely to occur. They would base their
judgment upon past experience regarding the likelihood of occurrence, gut feel, lessons
learned, historical data, etc.

Early in the project there is more at risk then as the project moves towards its close. Risk
management should therefore be done early on in the life cycle of the project as well as on an
on-going basis.

The significance is that opportunity and risk generally remain relatively high during project
planning (beginning of the project life cycle) but because of the relatively low level of
investment to this point, the amount at stake remains low. In contrast, during project
execution, risk progressively falls to lower levels as remaining unknowns are translated into
known. At the same time, the amount at stake steadily rises as the necessary resources are
progressively invested to complete the project.

The critical point is that Risk Management is a continuous process and as such must not only
be done at the very beginning of the project, but continuously throughout the life of the
project. For example, if a project’s total duration was estimated at 3 months, a risk
assessment should be done at least at the end of month 1 and month 2. At each stage of the
project’s life, new risks will be identified, quantified and managed.

Risk Response

Risk Response generally includes:

 Avoidance…eliminating a specific threat, usually by eliminating the cause.

 Mitigation…reducing the expected monetary value of a risk event by reducing the
probability of occurrence.
 Acceptance…accepting the consequences of the risk. This is often accomplished by
developing a contingency plan to execute should the risk event occur.
In developing Contingency Plans, the Project Team engages in a problem solving process.
The end result will be a plan that can be put in place on a moment’s notice.

What a Project Team would want to achieve is an ability to deal with blockages and barriers
to their successful completion of the project on time and/or on budget. Contingency plans
will help to ensure that they can quickly deal with most problems as they arise. Once
developed, they can just pull out the contingency plan and put it into place.

Why do Risk Management?

The purpose of risk management is to:

 Identify possible risks.

 Reduce or allocate risks.
 Provide a rational basis for better decision making in regards to all risks.
 Plan.
Assessing and managing risks is the best weapon you have against project catastrophes. By
evaluating your plan for potential problems and developing strategies to address them, you’ll
improve your chances of a successful, if not perfect, project.

Additionally, continuous risk management will:

 Ensure that high priority risks are aggressively managed and that all risks are cost-
effectively managed throughout the project.
 Provide management at all levels with the information required to make informed
decisions on issues critical to project success.
If you don’t actively attack risks, they will actively attack you!!

How to do Risk Management?

First we need to look at the various sources of risks. There are many sources and this list is
not meant to be inclusive, but rather, a guide for the initial brainstorming of all risks. By
referencing this list, it helps the team determine all possible sources of risk.
Various sources of risk include:

 Project Management
 Top management not recognizing this activity as a project
 Too many projects going on at one time
 Impossible schedule commitments
 No functional input into the planning phase
 No one person responsible for the total project
 Poor control of design changes
 Problems with team members.
 Poor control of customer changes
 Poor understanding of the project manager’s job
 Wrong person assigned as project manager
 No integrated planning and control
 Organization’s resources are overcommitted
 Unrealistic planning and scheduling
 No project cost accounting ability
 Conflicting project priorities
 Poorly organized project office
 External
 Unpredictable
 Unforeseen regulatory requirements
 Natural disasters
 Vandalism, sabotage or unpredicted side effects
 Predictable
 Market or operational risk
 Social
 Environmental
 Inflation
 Currency rate fluctuations
 Media
 Technical
 Technology changes
 Risks stemming from design process
  Legal
 Violating trade marks and licenses
 Sued for breach of contract
 Labour or workplace problem
 Litigation due to tort law
 Legislation

The Risk Analysis Process

The Risk Analysis Process is essentially a quality problem solving process. Quality and
assessment tools are used to determine and prioritize risks for assessment and resolution.
The risk analysis process is as follows:

 Identify the Risk

 This step is brainstorming. Reviewing the lists of possible risk sources as well as the
project team’s experiences and knowledge, all potential risks are identified.
 Using an assessment instrument, risks are then categorized and prioritized. The
number of risks identified usually exceeds the time capacity of the project team to
analyze and develop contingencies. The process of prioritization helps them to
manage those risks that have both a high impact and a high probability of
occurrence.
 Assess the Risk
 Traditional problem solving often moves from problem identification to problem
solution. However, before trying to determine how best to manage risks, the project
team must identify the root causes of the identified risks.
The project team asks questions including:
 What would cause this risk?
 How will this risk impact the project?
 Develop Responses to the Risk
 Now the project team is ready to begin the process of assessing possible remedies to
manage the risk or possibly, prevent the risk from occurring. Questions the team
will ask include:
 What can be done to reduce the likelihood of this risk?
 What can be done to manage the risk, should it occur?
 Develop a Contingency Plan or Preventative Measures for the Risk
 The project team will convert into tasks, those ideas that were identified to reduce or
eliminate risk likelihood.
 Those tasks identified to manage the risk, should it occur, are developed into short
contingency plans that can be put aside. Should the risk occur, they can be brought
forward and quickly put into action, thereby reducing the need to manage the risk by
crisis.
4. Demonstrate that you have a process to identify and document the risks: The
identification of potential issues, hazards, threats, and vulnerabilities that could negatively
affect work efforts or plans is the basis for sound and successful risk management. Risks
must be identified and described in an understandable way before they can be analyzed
and managed properly. Risks are documented in a concise statement that includes the
context, conditions, and consequences of risk occurrence.

Risk identification should be an organized, thorough approach to seek out probable or

realistic risks in achieving objectives. To be effective, risk identification should not be an
attempt to address every possible event regardless of how highly improbable it may be.
Use of the categories and parameters developed in the risk management strategy, along
with the identified sources of risk, can provide the discipline and streamlining appropriate
to risk identification. The identified risks form a baseline to initiate risk management
activities. The list of risks should be reviewed periodically to re-examine possible sources
of risk and changing conditions to uncover sources and risks previously overlooked or
nonexistent when the risk management strategy was last updated.

Risk identification activities focus on the identification of risks, not placement of blame.
The results of risk identification activities are not used by management to evaluate the
performance of individuals.

There are many methods for identifying risks. Typical identification methods include :
(1) Examine each element of the project work breakdown structure to uncover risks;
(2) Conduct a risk assessment using a risk taxonomy. Interview subject matter experts;
(3) Review risk management efforts from similar products. Examine lessons-learned
documents or databases; (4) Examine design specifications and agreement requirements.
 A typical work product would be a list of identified risks, including the context,
conditions, and consequences of risk occurrence.

5. Demonstrate that you have a process to evaluate and categorize each identified risk
using the defined risk categories and parameters, and determine its relative priority:
The evaluation of risks is needed to assign relative importance to each identified risk, and
is used in determining when appropriate management attention is required. Often it is
useful to aggregate risks based on their interrelationships, and develop options at an
aggregate level. When an aggregate risk is formed by a roll up of lower level risks, care
must be taken to ensure that important lower level risks are not ignored.

A typical work product would be a list of risks, with a priority assigned to each risk.

6. Demonstrate that you have a process to develop a risk mitigation plan for the most
important risks to the project, as defined by the risk management strategy: A critical
component of a risk mitigation plan is to develop alternative courses of action,
workarounds, and fallback positions, with a recommended course of action for each
critical risk. The risk mitigation plan for a given risk includes techniques and methods
used to avoid, reduce, and control the probability of occurrence of the risk, the extent of
damage incurred should the risk occur (sometimes called a “contingency plan”), or both.
Risks are monitored and when they exceed the established thresholds, the risk mitigation
plans are deployed to return the impacted effort to an acceptable risk level. If the risk
cannot be mitigated, a contingency plan may be invoked. Both risk mitigation and
contingency plans are often generated only for selected risks where the consequences of
the risks are determined to be high or unacceptable; other risks may be accepted and
simply monitored.

Options for handling risks typically include alternatives such as:

(1) Risk avoidance: Changing or lowering requirements while still meeting the user’s
needs;

(2) Risk control: Taking active steps to minimize risks;

(3) Risk transfer: Reallocating design requirements to lower the risks;

(4) Risk monitoring: Watching and periodically revaluating the risk for changes to the
assigned risk parameters;
 (5) Risk acceptance: Acknowledgment of risk but not taking any action. Often,
especially for high risks, more than one approach to handling a risk should be generated.

In many cases, risks will be accepted or watched. Risk acceptance is usually done when
the risk is judged too low for formal mitigation, or when there appears to be no viable
way to reduce the risk. If a risk is accepted, the rationale for this decision should be
documented. Risks are watched when there is an objectively defined, verifiable, and
documented threshold of performance, time, or risk exposure (the combination of
likelihood and consequence) that will trigger risk mitigation planning or invoke a
contingency plan if it is needed.

Adequate consideration should be given early to technology demonstrations, models,

simulations, and prototypes as part of risk mitigation planning.

Typical work products would include: (1) Documented handling options for each
identified risk; (2) Risk mitigation plans; (3) Contingency plans; and (4) a list of those
responsible for tracking and addressing each risk

7. Demonstrate that you have a process to monitor the status of each risk periodically
and implement the risk mitigation plan as appropriate: To control and manage risks
effectively during the work effort, follow a program to monitor risks and their status and
the results of risk-handling actions regularly. The risk management strategy defines the
intervals at which the risk status should be revisited. This activity may result in the
discovery of new risks or new risk-handling options that may require re-planning and
reassessment. In either event, the acceptability thresholds associated with the risk should
be compared against the status to determine the need for implementing a risk mitigation
plan.

Typical work products would include: (1) Updated lists of risk status; (2) Updated
assessments of risk likelihood, consequence, and thresholds; (3) Updated lists of risk-
handling options; (4) Updated list of actions taken to handle risks; and (5) Risk mitigation
plans.

8. Demonstrate that you have established and maintain an organizational policy for
planning and performing the risk management processes.
9. Demonstrate that you establish and maintain a plan for performing the risk
management process: Typically, this plan for performing the risk management process
is included in (or referenced by) the project plan. This would address the comprehensive
planning for all of the specific practices in the project plan, from determining risk sources
and categories all the way through to the implementation of risk mitigation plans.

10. Demonstrate that you provide adequate resources for performing the risk
management process, developing the work products, and providing the services of
the process: Examples of resources provided are: risk management databases, risk
mitigation tools, prototyping tools, and modelling and simulation.

11. Demonstrate that you assign responsibility and authority for performing the
process, developing the work products, and providing the services of the risk
management process.

12. Demonstrate that you train the people performing or supporting the risk
management process as needed.

13. Demonstrate that you place designated work products of the risk management
process under appropriate levels of configuration management.

14. Demonstrate that you identify and involve the relevant stakeholders of the risk
management process as planned.

15. Demonstrate that you monitor and control the risk management process against the
plan for performing the process and take appropriate corrective action.

16. Demonstrate that you objectively evaluate adherence of the risk management
process against its process description, standards, and procedures, and address
noncompliance.

17. Demonstrate that you review the activities, status, and results of the risk
management process with higher level management and resolve issues: Reviews of
the project risk status are held on a periodic and event-driven basis with appropriate levels
of management, to provide visibility into the potential for project risk exposure and
appropriate corrective action. Typically, these reviews will include a summary of the
most critical risks, key risk parameters (such as likelihood and consequence of these
risks), and the status of risk mitigation efforts.
RISK MANAGEMENT FOR EQUITY PORTFOLIO MANAGERS

In recent years financial markets have been subject to a great deal of change. Some examples
of these changes include the following:

(1) We have witnessed a high, and perhaps unprecedented, level of uncertainty in investment
markets.

(2) There have been changes to society's attitude towards the provision of saving, provision
for retirement and ill-health, and so on. Owners of assets require ever greater levels of
accountability from their advisers. The United Kingdom Government has sponsored various
reviews which are likely to have far reaching consequences.

(3) Changes in legislation and professional standards have clearly had very material effects
on the way in which financial markets work.

(4) We have witnessed several `bubbles' ö the rise (and subsequent fall) of the technology,
media and telecommunications sector and many corporate excesses, some of which have not
been matched in recent memory, or perhaps ever.

(5) There has probably never been a broader variety and choice of savings, investment and
speculation opportunities available to the sophisticated and unsophisticated investor alike.

Market participants have reacted to these changing times in different ways, as they struggle to
adapt to the new circumstances in which they find themselves. The challenges are made
worse, as markets have had to make their adjustments against a back-drop of difficult and
volatile markets conditions.

Against this complex background, this paper primarily focuses on the efficient management
of equity portfolios, and aims to provide a practical rationale to help portfolio managers
answer a number of questions:

(1) How are the risks in any particular equity market changing over time?

(2) How can one construct an equity portfolio more efficiently in a systematic, effective way,
particularly with regard to the risk/reward trade-off?

(3) How can one `budget one's risk' more effectively in a practical sense?
The building of efficient risk models is the fundamental building block of the entire
structure:

In Section 3, we categorise risk models into six broad categories: variance/co-variance,

historical, factor, value-at-risk, statistical and stochastic models. We review the different
types of risk model in turn. The building of a risk model is a relatively technical operation,
but it is essential for practical application for portfolio managers, even though it is of little
interest to them in its own right.

In Section 4, we overlay the application of cluster analysis onto the risk model in an
innovative way to show the risk structure of the market. Repeating this process at various
points in time shows how the risk structure of a market changes over time.

In Section 5, To an investment manager `risk' is an important and precious commodity, and

needs to be spent prudently. Whilst a number of papers have been written on this important
topic, there seems to be a dearth in the current literature on practical applications to help fund
managers in this task.

In Section 6, we review the literature and provide a series of practical examples of how a
statistical factor model combined with cluster analysis techniques can form a useful and
practical toolkit. Our conclusions are covered in Section 7.

The Changing Paradigm of Portfolio Management

Background to Risk Management:

 Managing a portfolio is essentially a process of balancing expected risks and expected

returns, bearing in mind any restrictions and constraints that there might be. For example,
these constraints may be placed on the portfolio manager by the client, a regulator, or
may be effectively self-imposed by the fund manager for professionally prudent reasons.
 Arbitrary stock restrictions were historically a way of managing risk. Popular ways of
managing risk in the past have utilised ad hoc portfolio construction rules. A restriction of
a maximum of 10% in any single stock within a portfolio is a good example of this. Other
examples include minimum and maximum sector and country weights, often relative to a
client-specified benchmark; restrictions on large vs. small capitalisation exposures, and so
on.
 Indeed, it could be argued that the widely practiced idea of sector neutrality within a
portfolio is just another arbitrary restriction. However, as we will show later, ensuring the
money neutrality of holdings within a portfolio is a wholly different thing to true risk
neutrality. For example, a fund might have the same exposure to the telecommunications
sector as in the fund's benchmark, but if you own the more volatile stocks in the sector
and do not own the less volatile telecommunications stocks, the likelihood is that you will
have a risk `overweight' position in the telecommunications sector as a whole.
 Furthermore, there has been no widespread recognition of the idea that portfolio
construction should be a distinct discipline within a fund management house; the
problems and challenges of portfolio construction and risk management are every bit as
much a `science' as they are an `art'. Frequently, the same professionals who are involved
in asset allocation or stock selection are often involved in portfolio construction, without
accepting that the skill sets required may be very different. It is our view that fund
managers will increasingly make this distinction in the future. More recently, the legal
and regulatory systems, combined with a more sophisticated end client base, have started
the process of making risk an explicit constraint on the portfolio manager. Consultants
and regulators are also becoming more and more interested.
 Modern portfolio and risk analysis systems give the fund manager the tools to manage
risk and return interactively, allowing them to both comply with regulations and client
restrictions and to best manage return under these constraints. In our view, it is essential
for fund managers to have such systems in the face of increasing competition and client
accountability. This is distinctly different from simply monitoring risk, say once a month
in arrears, to comply with the minimum standards of due diligence expected by the client.

Definitions of Risk: We believe that it is important to distinguish between three definitions

of risk; these differences are more than semantics. Risk monitoring is most frequently ö but
not always ö observed in arrears.

Typically, it will answer some, or all, of the following questions:

 What level of risk has been incurred?

 What were the sources of that risk?
 Has any unexpected risk been incurred?
Clearly, the main drawback to this definition of risk monitoring is that risk is observed in
arrears; by which time the risk has been incurred, it cannot be managed, and there is nothing
that the portfolio/risk manager can do about it.

Risk measurement is the act of measuring the level of risk, and is unique to the portfolio, its
benchmark and the risk model used. Clearly, the objective is to measure this risk as
accurately as possible.

Integrating risk management into the portfolio manager's daily portfolio construction process
is both a significant improvement on arbitrary stock/sector/country restrictions and a step
improvement over the occasional measurement of risk by an external team. Empowering
portfolio managers with the tools to manage risk should allow them to add value in the form
of better managing the risk/return characteristics of their portfolios.

The processes underlying risk management are altogether more involved and complex: ö
Portfolio construction is at the heart of the process, with direct input from risk models,
market impact models and index research. ö Trading models assist the process of
implementation, and naturally recycle into the portfolio construction process. ö A market
impact model is an independent and explicit input into the management process ö the cost of
trading has to be explicitly incorporated in the risk/return trade-off aspects of the portfolio
construction process.

Why is Risk Management so Vital?

Many fund managers have not practised risk management. Risk management for a financial
enterprise requires both the aggregation of positions across asset classes and the
understanding of risks inherent in those positions. This is by no means a trivial or simple task,
even for modern organisations with access to sophisticated information technology, which
may control many hundreds of thousands of positions invested in a variety of instruments
traded across different time zones. In order to obtain a solution to this difficult management
challenge, simplifications have typically been made, both at the level of aggregation and of
risk analysis. While these simplifications may be unobjectionable for some purposes, certain
applications demand a more sophisticated approach.

The clear implication is that the technology applicable to a single portfolio, typically based
on a multiple factor model for security returns, must be implemented enterprise wide.
The asset management industry has become increasingly complex over recent years.
Organisations that may have focused, a few years ago, on delivering one or two similar
products constructed in one location to a single, homogenous group of clients, have evolved
into true multinational enterprises.

Portfolio `manufacturing' may take place in a number of locations (the equivalent for a
multinational is a factory) around the world, and in each location different styles and
variations of the product line may be developed.

Particularly in the large fund managers, manufacturing competencies are kept distinct from
the skills required to develop an efficient distribution capability.

Portfolio distribution is likely also to be a multi-location activity, and in each location a

variety of different channels may be employed to reach customers of interest to the
organisation.

In many regards, the modern fund manager is as organisationally complex as any large,
industrial, multinational company.

However, there are four clear differences between a traditional multinational industrial
company and a modern asset management firm:

(1) The fund manager, despite the increasing use of technology, is still highly dependent on
individual human contributors ö the `assets' of the company go up and down in the lift each
day. Traditionally, investment has always had a heavy reliance on `investment flair' in a way
that has little parallel in an industrial company.

(2) There are a number of differences in the level of regulatory oversight of the investment
product. At the `factory' ö where prudence and fiduciary standards are key operating
constraints ö the level of regulation of the `product' is relatively low. (This contrasts to the
industrial company where freedom to manufacture might be constrained by patent and safety
laws.) However, as far as distribution is concerned, the regulation is far more restrictive, and
securities laws govern the transparency of the sales process.

(3) This regulatory environment, at least historically, imposes a structure, which has forced a
significant human intervention. In many instances it is as if each product and sales effort is
individually `hand made' for the ultimate client or prospect. Fund managers have tried to
mitigate this development by increasing, where it is possible and practical, the homogeneity
of portfolios, e.g. by establishing commingled vehicles.

(4) With so many `moving parts', the management and control problem of a modern fund
manager is enormously complex. He or she has to coordinate intelligent, motivated
individuals, who, in many cases, represent the `value' of the organisation, to perform an
intricate task efficiently and to retain some scope for personal challenge and reward.
Meanwhile, the organisation needs to overlay a structure for achieving stability and growth to
ensure product quality, at the same time delivering a return on capital for the shareholders.

The Role of Portfolio Construction and Risk Analysis:

In addition, the portfolio's overall risk and the portfolio's likely deviation from its benchmark
(tracking error or residual risk), among other risk statistics, are important, not only from a
quality control point of view, but also to satisfy the regulatory requirements.

There are many good examples of how an incomplete knowledge of the aggregate risks can
lead to inefficiencies in the risk budgeting process, or worse. There are three broad classes of
problems which arise from a failure to have proper risk management systems. These are:

(1) a potential compounding of unintended bets and uncompensated exposures to risk;

(2) unwarranted over-diversification or the reverse, concentration; and

(3) a shorter window misallocation of resources.

Over/under-diversification:

A lack of co-ordination between multiple managers can lead to three potentially undesirable
outcomes: ö A series of unintentional small bets can compound into an unwarranted large bet,
leading to an unjustified over-concentration in the aggregate portfolio. In contrast, without
co-ordination, the portfolio managers may intentionally take a similar bet (for example,
towards value stocks world-wide), leading to an aggregate bet that is far too large and an
overconcentration in the aggregate portfolio. ö The opposite, over-diversification, is also a
danger. Here conservatism tends to eliminate all bets, with the aggregate portfolio
approximating an index fund without the possibility of superior performance. ö For a fund of
funds or a plan sponsor portfolio, active management fees go un-rewarded, while, for an asset
management firm, the possibility of eye-catching performance is eliminated, together with
any justification for management fees.

Clearly, similar problems can occur within individual portfolios and their sub-components.

Misallocation of resources:

(1) Modern financial theory is centred on the goal of maximising a risk/ reward trade-off.
This objective applies just as much to the enterprise as a whole as it does to an individual
portfolio, where quantitative managers, in particular, have long used analytical tools to ensure
that an asset's contribution to portfolio risk is commensurate with its contribution to expected
portfolio return.

(2) We believe that a similar paradigm applies to a fund of funds (in terms of the component
portfolios), a plan sponsor (in terms of the managed sub-portfolios), and an entire asset
manager (in terms of the component products). Just as the success of an individual portfolio
manager is tied to the performance of the portfolio and its risk/reward trade-off, so the long-
term success of the asset management firm is tied to the aggregate performance of all the
products offered and their aggregate risk/reward trade-off.

Hedge fund:

(1) In sharp contrast to insurance companies, hedge funds are established in such a way that
they are subject to relatively low levels of regulation, thus giving them large amounts of
investment freedom. Typically they have the fewest investment constraints of any category of
investors; by and large they are free to take on whatever level of risk they feel comfortable
with, including, importantly, leverage. Leverage is employed by hedge funds in different
degrees and for different purposes, among them increasing either the size or the number of
positions in the fund's portfolio, amplifying the small residual returns generated by spread
trades and offsetting the fund's directional market exposure.

(2) Hedge fund managers can differ substantially on how they implement their strategy and
are free of the constraints of being measured relative to a benchmark index. As a result, the
correlation of returns between different managers and different strategies is frequently low
and stable. Typically, fund-of-fund strategies are structured to exploit these features.

(3) Most hedge funds define risk as a loss of principal as opposed to tracking error relative to
a benchmark (Parker, 2002).
(4) The time horizon of this risk is typically much shorter than for many other types of
portfolios; it is not unusual to measure and manage this `draw-down' of capital on a daily
basis.

(5) Rate of return is normally measured relative to cash and a `peer group' of hedge funds
with a similar style.

Mutual fund:

(1) Similar to insurance companies (and unlike hedge funds), mutual funds are aimed
towards the retail client, and consequently are relatively highly regulated. They operate in a
highly competitive environment, where assets have a tendency to move towards the
`fashionable' fund manager or `hot' investment sector.

(2) The rate of return is of crucial importance. However, it tends to be viewed as relative to
the competitive `peer group' rather than either a benchmark or a cash deposit rate.

(3) The risks are usually seen as not performing as well as the `peer group' ö perhaps more a
manifestation of a business, rather than an investment, risk.

(4) The time horizon is relatively short, but, typically, it falls between the short-term focus of
the hedge fund and the longer-term perspective of either a pension fund or an insurance
company.

Review of Risk Models

What is a Risk Model?

A risk model is the key ingredient that allows a portfolio constructor to put his expected
returns for different stocks into context. Typically, the portfolio manager has to consider a
number of things when efficiently constructing a portfolio: ö the sources of return for each
stock; ö the sources of risk; and ö the concentration of the portfolio and the diversification of
the sources of risk and return.

Risk is often not as intuitive as return, because it is multidimensional. Risk models seek to
simplify the problem by allowing the portfolio manager to make more sensible use of the
available information. Again, we confine our attention to the risk models that can be used by
portfolio managers.
Criteria for Choosing a Risk Model:

There are multitudes of different ways in which risk models can be built. In our view, there
is no `correct' methodology that can be applied in all circumstances. However, some models
and methodologies are better than others. There are four criteria that can be applied in the
assessment of the quality of risk models: ö explanation of risk; ö objectivity; ö
interpretability; and ö forecasting of risk.

Explanation of risk is the ability to break risk down into a lower number of more or less
independent dimensions. Historical, Monte Carlo and variance/covariance techniques do not
attempt to simplify risk, only to measure it. Factor models break risk down into common
factors and stock specific components. Common factors should ideally be independent, i.e.
contain uncorrelated information. A measure of success of these models is how much of the
total risk of each stock can be explained by the factor component. Typically, macro-economic
factors explain the least proportion of risk, and statistical factor models, by definition, have
maximum explanatory power for a given number of factors.

Objectivity:

It is necessary to make a number of assumptions when building risk models. Objectivity

implies a lack of assumptions about what drives the differential performance of stocks. A
macro-economic factor model relates stock returns through their sensitivity to prevailing
economic forces. Similarly, fundamental models relate the characteristics of a particular
company to corresponding common risk factors; for example, relating the market
capitalisation of a company to a market size factor return. Each of these factor models makes
assumptions about the precise identity of the common factors driving returns. Obviously, it
makes no sense to test theories about what drives stock returns in models that have made
assumptions about these processes beforehand. Statistical factor models, unlike other types of
risk model, make no such a priori assumptions about the precise sources of risk.

Interpretability is often the flip side of objectivity. Macroeconomic and fundamental factor
models have the advantage of relating real world risk factors to stock price returns. For
example, a macro-economic model might specify how each would respond to an unexpected
change in the rate of consumer price inflation.

Forecasting of risk for historical, variance/co-variance, macroeconomic and fundamental risk

models implicitly assumes that the historical risk structure of the market will, on average,
continue in the future. We know this assumption to be invalid and, in certain market
environments, extreme events, or even slow trends, can introduce substantial errors. Monte
Carlo techniques can explicitly make forecasts for the future structure of the market, but there
are large subjective elements in the distribution assumptions. Statistical factor models ideally
lend themselves to forecasting techniques, and the forecasts have the further benefit of being
objectively driven by the data.

Mixed factor models seek to combine the advantages of each of the three main factor
modeling techniques, namely macro-economic, fundamental and statistical.

Types of Risk Model:

There are a number of differences between the underlying approaches to constructing risk
models. We classify six different types of risk model, and briefly consider each in turn:

 variance/co-variance methods;
 historical models;
 factor models;
 value-at-risk models;
 statistical models; and
 Monte Carlo techniques.

Variance/co-variance methods:

(1) Variance/co-variance methods are based on the work done in the 1960s by Markowitz
(1959) and Sharpe (1963). These models formed the basis of modern portfolio theory.

(2) Given a number of assumptions, that more modern techniques are able to relax, the
correlation between assets can be allowed for in measuring the overall riskiness of a
portfolio.

(3) The main problem is that the model is purely descriptive, and does not allow the sources
of risk to be analysed, and so renders them useless for modern risk management.
Furthermore, the assumptions underlying the model are too restrictive for more modern assets
like derivatives.
(4) Many other types of risk model are based upon this fundamental approach. For example,
both pre-defined and statistical factor models typically decompose the historical co-variance
matrix in terms of a parsimonious set of factors.

Factor models:

(1) Factor models seek to explain risk by building on the variance/covariance approach and
adding explanatory structure in the form of different factors (see Ross, 1976). There is great
choice of explanatory variables, but they fall into two broad categories. The factors are
typically either macro-economic or fundamental.

(2) Macro-economic factors essentially try to model the sensitivity of equities and other
assets as a function of economic factors. The most common factors are usually:

 interest rates (short-term, long-term, shape of the yield curve);

 currencies;
 inflation (consumer prices, producer prices, unit labour costs);
 commodity prices (oil, gold, indices); and
 output (gross domestic product, industrial production, retail sales, survey data)

(3) Fundamental factors are generally based upon data derived from corporate accounts, and
are felt by the investment community to be important factors that drive equity prices from
time to time.

(4) Fundamental factor models express the riskiness of assets as a function of various styles
and indices. The most common factors are usually:

 value vs. growth (price/earnings ratio, price-to-book, yield);

 the size (log market capitalisation, `blue-chip' effect);
 momentum/success (index out-performance, moving averages);
 forecasts/surprises (I/B/E/S expectations, earnings revisions); and
 the country or economic/industry sector effects.

(5) Despite its undoubted popularity, this type of model is fraught with a number of serious
problems. The models intrinsically lack flexibility; they do not respond well to changes in
market conditions or to new variables that may drive prices. In most cases the factors simply
do not match up to those that are used by the portfolio managers. There are a limited numbers
of factors; different factors would require a completely new re estimation of the model that
often renders the exercise impractical. The factors are correlated, and therefore interpretation
of the results, whilst it appears to be quite simple, is, in fact, extremely difficult. In the case
of economic series, most economic series are highly correlated, and one runs into severe
problems when including many factors. Frequently, meaningful data are not available on a
consistent basis either across or within markets.

Value-at-risk models:

(1) This approach to modeling risk management comes from a different perspective, i.e. how
much money could I lose at a given level of probability? The estimates can be based on either
parametric estimates of the distribution of returns or non-parametric statistics.

(2) Value-at-risk (VAR) has traditionally been practised by investment banks for internal risk
management.

(3) VAR models are not without their problems. Non-parametric VAR models are mainly
descriptive, and do not allow the sources of risk to be analysed. The analysis is limited to
simulation and scenario analyses; there are no sensitivities to factors. Finally, and perhaps
most importantly, risk attribution is difficult. However, parametric VAR models are more
similar to their `cousins' in factor and statistical model categories.

Statistical models:

(1) Statistical models take an abstract approach to modelling the risk of assets. Typically,
these models are based solely on market prices and dividends, and make very few
assumptions as to what drives the risk in markets at any point in time.

(2) Based upon these rates of return, statistical techniques are used to produce a set of
statistical risk factors. The results are so-called `blind factors', which typically have a better
fit with the asset returns than with other methods that use pre-specified factors in some way.

(3) However, there are a number of problems with this approach. These `blind factors' are
difficult to ascribe meaning to, and have no `real world' application. Furthermore, the
estimation techniques tend to require a clean and complete data set, which is difficult to
achieve in practice.
Monte Carlo techniques:

(1) Monte Carlo techniques use large numbers of randomly generated scenarios to highlight
the range of possible outcomes and, therefore, risk. These types of technique are well known
to the actuarial profession, as they are applied quite widely.

(2) These methods are not different risk models as such, rather alternative ways of estimating
the shape of the more complex probability distributions (e.g. non-normal, leptokurtosis and
skewed distributions).

Table 1. Summary of differences between different types of risk model

Factor models

Historical Monte Carlo Variance/ co-variance

Macroeconomic

Fundamental Statistical

Explanation of risk - - - Objectivity Interpretability - - - Forecasting of risk

An important aspect of our approach is the distinction that we make between risk
measurement and risk management. Inefficiencies and lack of clarity are introduced if these
two aspects of risk are not analysed separately. If the model tries to do both simultaneously,
then the measurement of risk is likely not to be as accurate as if the two components were
kept separate. Therefore, in a mixed factor model there is a two-stage approach. First, there is
the measurement of the risk, and second (and quite separate), there is the interpretation of the
risk so that it can form the cornerstone of risk management.

Phase 1. Building the model to measure risk:

(1) For the risk measurement phase only market prices are used. The rationale for this is that
it is not possible to know, on a consistent basis, the risk factors that are driving stock markets
at any point in time. The best estimate that is available is as indicated by the relative risk
preferences of the market participants ö this is clearly reflected in the marginal price at which
these participants are prepared to transfer their preferences into their portfolios, i.e. market
prices.
(2) By using market prices, we expect to have a better measure of risk than if we had applied
a pre-specified factor model.

(3) A number of techniques are used to construct a base statistical factor model with
orthogonal factors. We use maximum likelihood techniques (which we believe are more
appropriate than principal component analysis for this particular application) (Dumpster et
al., 1977). The factors represent a mathematical description of the common movements in
stock returns. The factors are orthogonal to each other, i.e. they contain non-overlapping
information and are uncorrelated. The resulting residual risk for each stock can be viewed as
specific to that stock and unrelated to the other stocks in the model. These mathematical
properties are very useful in subsequent analysis, particularly with regard to risk management
and the interpretation of risk.

(4) It is important to recognise that the maximum likelihood techniques are not new statistical
techniques ö there is a rich academic literature on the methods. However, it is different to the
better-known technique of principal components (Shukla & Trzcinka, 1990). The main
differences between the two techniques can be summarised as follows: ö Principal
components' analysis is a matrix manipulation technique, and therefore requires a complete
data set of returns ö it does not handle missing data well. ö Whilst, by design, the factors
derived in a principal components' analysis are orthogonal, the balancing item is only that
part of the risk that is not already explained by the factors. It is not independent of the derived
factors, nor are they independent of each other.

(5) From this base model other models can be generated, which are more appropriate to the
job in hand, but it should always be possible to rotate back to this common point of reference.

Since they are based on market prices, the modelling process is very flexible and consistent
models can be created across markets ö the only criterion is a set of consistent market prices.
The model can be adapted to cope with assets that trade infrequently or have a short trading
history ö but there will be estimation error.

From this base model we can then start to create other models. These include:

(1) Trading or arbitrage models with different periodicities, e.g. daily;

(2) Pre-specified models, where either fundamental company or macroeconomic factors can
be combined with statistical factors to achieve a more meaningful and intuitive structure
along with an improved model fit; and

(3) back-testing models, using different estimation periods, to test investment strategies in the
past.

Clearly all risk models are estimated with some sampling error. Models of different data
windows and periodicities can easily be estimated and compared. However, there is always a
trade-off between a more responsive model, based upon a shorter window of possibly higher
frequency data, and a more stable model based upon a longer window for less sampling error.

Phase 2. Managing risk:

(1) Investment themes vary over time, and different people are interested in different themes.
This is a major challenge for pre-specified factor models whether they use fundamental or
macro-economic factors since they tend to vary slowly over time, are lethargic at capturing
new influences on market returns, and are most unlikely to accurately reflect and capture a
portfolio manager's investment processes or valuation disciplines. This is a big impediment to
practical risk management. The mixed factor model structure allows risk to be viewed in a
highly flexible fashion and to cope easily with different and transient themes.

(2) Themes can be highly client specific or highly time specific, for example: a portfolio
manager's investment process might be value-based and tailored to two or three proprietary
valuation measures; or technology, as an investment theme, affected markets in a very
different way in 1999/2000 than in previous years.

Reward/Return:

Few portfolio managers have complete return forecasts on all of their holdings and the
benchmark constituents. This makes the conventional approach to risk/return trade-off
analysis very difficult. However, from our experience, most portfolio managers have a view
on the returns that they are expecting from the stocks within their portfolios relative to each
other.
Factor risk structure of the FTSE Euro top Index

Historically, this absence of comprehensive return forecasts has been a problem for risk
management systems where an attempt is made to trade off risk and return. However, this
problem can be partially overcome by using a risk statistic called marginal contribution to
risk (MCR). The key features of the MCR are as follows:

(1) The MCR can be positive or negative, and depends upon the stocks in the portfolio, in the
benchmark and their relative weights.

(2) If a portfolio manager wants to increase the risk in a portfolio, then he can either add to
stocks with a positive MCR and/or sell stocks with a negative MCR.

(3) It can be driven by beta, in the sense that in a portfolio with beta greater than one all
stocks with positive beta will tend to have a positive MCR, because adding to these stocks
will increase portfolio beta and hence risk.

(4) Stocks with a negative (or relatively low magnitude) MCR are diversifying the risk within
the portfolio.

Therefore, the MCR forms the bridge between risk and reward.

Changing Risk Structure of an Equity Market:

Risk Changes over Time

Market practitioners all know that the risk structure of equity markets change overtime. In
order to frame an investment view ,it is imperative that portfolio managers know, on a
disciplined basis, both the current risk structure of the market and how it has changed. Only
when this knowledge is available is there any chance of taking rational investment decisions.
The statistical approach to building risk models is particularly well suited to an analytical
approach to assessing the current risk structure of an equity market. As we have discussed in
Section 3, risk models can be built over various time periods, with various frequency of
observations (e.g. daily or weekly rate of return measurements), so that risk can be assessed
over a whole variety of periods that range from the short-term to the long-term. Accordingly,
the resultant risk models can be used for trading, hedge funds or longer-term investors.
In Section 4, we saw how we could use a risk model to see the risk structure of the market on
a consistent basis. In this section we develop a methodology to examine how, if at all, the risk
structure of an equity market changes over time.

Risk Budgeting:

The Need For Risk Budgeting

Risk budgeting has received a great deal of interest from the investment management
community recently (Rahl, 2002), but no clear consensus has emerged on how it should be
implemented. Many of the ideas in this section could equally be referred to as the
decomposition of expected risks or `co-variance accounting'. Risk budgeting takes the
analysis further: ªWhere do we want to take risk; where do we want to avoid it, whilst
satisfying various constraints?'' These types of questions can only be answered in conjunction
with an alpha generation model (whether quantitative or otherwise) and with some form of
simulation. The vital point is that a disciplined and repeatable framework for accounting for
risk is a necessary pre-requisite.

In a traditional, long-only investment environment, there is a natural limit to the downside

risk, which is the case where the value of the asset falls to zero. In a long-only environment,
no position can turn into a liability except in relation to the benchmark. A benchmarked long-
only portfolio is merely comprised of:

(1) The benchmark index; plus

(2) A long-short overlay portfolio with two constraints:

(a) A net zero exposure by market value; and

(b) No short position may be in excess of the benchmark index exposure.

Covariance Accounting From The Bottom Up:

There are a number of alternative models for risk, and earlier, in Section 3, we discussed the
relative merits of these alternatives. The same principles of accounting can be applied to any
multi-factor model for expected risk. The first assumption that we make is that forward
looking risk is quantified in terms of variance of returns. In general, these returns can be
either absolute returns or returns relative to a benchmark, but, for the sake of brevity, we will
henceforth assume that we are looking at relative returns, and use the term `tracking error' to
describe the square root of risk variance.

Our second assumption is that risk is best understood at the level of the individual security. A
collection of securities, whether it be an index or a portfolio, will be better analysed and
predicted, both in terms of risk and return, if the changing weightings of individual securities
are taken into account.

The objective that we have set ourselves is to account for risk; literally to attribute each basis
point of expected tracking error to its sources. The calculations of risk take into account the
positions in each constituent security ö we do not know of another way to analyse risk in a
consistent way which will yield the same result at different levels of aggregation.

This means that the term is zero if the active weight in either asset is zero, the contribution is
zero, and if the covariance is zero, the contribution is also zero. Thus the attribution works,
both from an algebraic point of view and from a commonsense point of view.

Risk Factors:

If the bottom line for risk can be attributed between the positions in different assets, it can
also be attributed between categories of risk. As we noted before, there are many competing
multi-factor models for risk, most of which conform to a simple three-class categorisation,
which we adopt here.

The first category is specific risk; the part of a security's returns which is totally unrelated to
other securities' returns. The second category is `market risk', in the sense meant by the
capital asset pricing model ö that is, the sensitivity of a security's returns to the returns on a
broad-based market index, as measured by beta. The third category is the remaining sources
of systematic risk, which we will call `styles and themes', which include what is normally
known as industry risk, as well as size, value, and so on.

Risk Budgeting and Risk Management:

Budgeting is an exercise in containment, normally applied to the containment of costs. The

motivation to devise an analogous process to contain risk in a portfolio is strong. However,
applying budgetary control to portfolio risk is problematical, because the systematic risk can
build up in a portfolio through the interactions of its constituents, and these interactions, by
their nature, are not readily contained. Specific risk can be budgeted for, because these
interactions do not occur, but only in special cases is this the dominant source of risk.

One way of getting around this is to make assumptions, even assumptions that are
implausible, such as zero correlation between different managers' active returns. When the
data are available to analyse risk without resorting to assumptions, the exercise of due
diligence requires use of these data. We therefore reject the use of assumptions, be they
plausible or not.

The original problem that motivated risk budgeting was the containment of risk. We propose
a risk management process that satisfies this need for containment of tracking error at the
portfolio level, without requiring the implausible assumptions. An effective process places
some demands upon both the information systems and the operations of a portfolio
management business.

A Worked Example:

For the sake of concreteness, consider the example of a global portfolio, with separate
managers for different regions. The following are some suggestions for an effective risk
management process:

(1) Management of variance. The individual portfolio managers have a budget for the risk
taken within their portfolios, without reference to other portfolios, i.e. the variance. Staying
within this budget is the responsibility of the managers, and they can ensure compliance by
reviewing the impact of trades before executing them. Market moves in their own sub-
portfolio and in the rest of the portfolio will have an impact on portfolio weights, and hence
on their risk contribution, so a periodic review is also needed.

(2) Management of covariance. As we have pointed out, a significant part of the total risk is
typically contributed by covariance. The active positions of the Pan-Euro manager are very
likely correlated with those of the North America manager, but the responsibility for this
covariance cannot be uniquely assigned to either manager. A solution is to assign half the
covariance to each manager, and to give each manager a budget for covariance. Staying
within this budget is the responsibility of the manager. If a trade by the Pan-Euro manager
would breach that manager's covariance budget, or anyone else's, it would need approval by a
person with responsibility for the portfolio as a whole.
(3) Interactive display of variance/covariance accounts. The management of risk is a multi-
level affair. What applies to management of risk accumulating between regional sub-
portfolios also applies to the management of risk accumulating between the sectors or
countries within a portfolio. Because the risk contribution tables are potentially large, even at
the industry/sector level, the use of well-designed information display technology makes a
big difference. Management by exception highlights clearly the biggest contributors, and, in
particular, those that are outside their control range. Drill down allows the user to move from
an aggregated level to a detail level and back again.

CLUSTER TECHNIQUES:

Cluster Analysis:

Cluster analysis is a multivariate statistical technique for grouping objects in a manner that
will help in the interpretation of those objects. The groups are mutually exclusive, and chosen
in such a way that the members of each group are similar to each other while members of
different groups are dissimilar. There are two principal ways of performing cluster analysis.
These are hierarchical clustering and partitioning (non-hierarchical).
 CHAPTER-5
DATA ANALYSIS AND
INTREPRUTATION
1) Age:

A) Below 25 B) 26 – 35 C) 35 & Above

30

25

20

Series 1
15
Column1
Column2
10

0
Category 1 Category 2 Category 3
2) Is anyone dependent on your income?

A) No dependents B) Only Spouse C) Parents, spouse & Children

35

30

25

20 Series 1
Column1
15
Column2

10

0
Category 1 Category 2 Category 3
3) How stable is your job/business/profession?

A) Excellent chances of growth B) Doing well & expected to raise

C) Don’t foresee any change

45

40

35

30

25 Series 1
Column1
20
Column2
15

10

0
Category 1 Category 2 Category 3
4) How much of your income are you able to save?

A) Over 30% B) 10 - 20% C) Less than 10%

35

30

25

20 Series 1
Column1
15
Column2

10

0
Category 1 Category 2 Category 3
 5) Which of these best describes your financial situation?

A) Excellent B) Reasonable sound C) Unstable

40

35

30

25
Series 1
20
Column1

15 Column2

10

0
Category 1 Category 2 Category 3
6) Give your current financial status, can you achieve your financial goals?

A) On track to reach all my goals B) Somewhat C) No

35

30

25

20 Series 1
Column1
15
Column2

10

0
Category 1 Category 2 Category 3
7) To what extent of your savings would you expose your investment to risk?

A) More than 60% B) 20 - 60% C) 0 - 20%

50

45

40

35

30
Series 1
25
Column1
20 Column2
15

10

0
Category 1 Category 2 Category 3
8) When do you expect to use most of the money you are now accumulating in your
investment?

A) Long - term 5 years B) Medium term 1 - 5 years C) Short term less than a year

35

30

25

20 Series 1
Column1
15
Column2

10

0
Category 1 Category 2 Category 3
9) What do you expect to be your next major expenditure?

A) Providing for retirement B) Saving for children’s education

C) Buying a house/ new business

35

30

25

20 Series 1
Column1
15
Column2

10

0
Category 1 Category 2 Category 3
10) How familiar are you with investment matters?

A) Very familiar. I use research and other investment information.

B) Somewhat familiar. I understand investment very basics.
C) Not familiar at all with investments.

45

40

35

30

25 Series 1
Column1
20
Column2
15

10

0
Category 1 Category 2 Category 3
 11) What is your approach to making financial decisions?

A) Analyze the various options B) Seeking friendly advise/take an educated guess

C) Do not take without anybody advice

40

35

30

25
Series 1
20
Column1

15 Column2

10

0
Category 1 Category 2 Category 3
12) Where would you want to invest?

A) Equities B) Equities and fixed income products C) Bank fixed deposits/PPF

35

30

25

20 Series 1
Column1
15
Column2

10

0
Category 1 Category 2 Category 3
13) How long have you been investing, not counting your home?

A) 3years or more B) Up to 3years C) This is my first investment

40

35

30

25
Series 1
20
Column1

15 Column2

10

0
Category 1 Category 2 Category 3
14) Assume that you had an investment portfolio worth Rs. 100000. If, due to market
conditions your portfolio fell to Rs. 85,000 within a month, would you…

A) Invest in more funds so that you can average your investment price.

B) Sell a portion of your portfolio to cut your losses and reinvest it into more secure
investment.

C) Sell all your investments. You do not intend to take risk.

40

35

30

25
Series 1
20
Column1

15 Column2

10

0
Category 1 Category 2 Category 3
15) Which of the following is important to you from your investments?

A) Capital appreciation B) Capital appreciation & protection regular

C) Regular income

35

30

25

20 Series 1
Column1
15
Column2

10

0
Category 1 Category 2 Category 3
QUESTIONNAIRE
 Questionnaire to calculate Risk Management

1. Age:

A) Below 25 [ 8 Points]

B) 26 - 35 [ 6 Points]

C) 35 & Above [ 4 Points]

2. Is anyone is dependent on your income

A) No dependents [ 8 Points]

B) Only Spouse [ 6 Points]

C) Parents, spouse & Children [ 4 Points]

3. How stable is your job/business/profession?

A) Excellent chances of growth [ 8 Points]

B) Doing well & expected to raise [ 6 Points]

C) Don’t foresee any change [ 4 Points]

4. How much of your income are you able to save?

A) Over 30% [ 8 Points]

B) 10 - 20% [ 6 Points]

C) Less than 10% [4 Points]

5. Which of these best describes your financial situation?

A) Excellent [ 8 Points]

B) Reasonable sound [ 6 Points]

C) Unstable [4 Points]
6. Give your current financial status, can you achieve your financial goals?

A) On track to reach all my goals [ 8 Points]

B) Somewhat [ 6 Points]

C) No [4 Points]

7. To what extent of your savings would you expose your investment to risk?

A) More than 60% [ 8 Points]

B) 20 - 60% [ 6 Points]

C) 0 - 20% [4 Points]

8. When do you expect to use most of the money you are now accumulating in your
investment?

A) Long - term 5 years [ 8 Points]

B) Medium term 1 - 5 years [ 6 Points]

C) Short term less than a year [4 Points]

9. What do you expect to be your next major expenditure?

A) Providing for retirement [ 8 Points]

B) Saving for children’s education [ 6 Points]

C) Buying a house/ new business [4 Points]

10. How familiar are you with investment matters?

A) Very familiar. I use research and other investment information. [ 8 Points]

B) Somewhat familiar. I understand investment very basics [ 6 Points]

C) Not familiar at all with investments [4 Points]

11. What is your approach to making financial decisions?

A) Analyze the various options [ 8 Points]

B) Seeking friendly advise/take an educated guess [ 6 Points]

C) Do not take without anybody advise [4 Points]

12. Where would you want to invest?

A) Equities [ 8 Points]

B) Equities and fixed income products [ 6 Points]

C) Bank fixed deposits/PPF [4 Points]

13. How long have you been investing, not counting your home?

A) 3years or more [ 8 Points]

B) Up to 3years [ 6 Points]

C) This is my first investment [4 Points]

14. Assume that you had an investment portfolio worth Rs. 100000. If, due to market
conditions your portfolio fell to Rs. 85,000 within a month, would you…

A) Invest in more funds so that you can average your investment price [ 8 Points]

B) Sell a portion of your portfolio to cut your losses and reinvest it into more secure
investment [ 6 Points]

C) Sell all your investments. You do not intend to take risk [ 4 Points]

15. Which of the following is important to you from your investments?

A) Capital appreciation [ 8 Points]

B) Capital appreciation & protection regular [ 6 Points]

C) Regular income [4 Points]

 Total Score
Risk Averse / Income Investor 60 - 80 Points
Risk Neutral / Balanced Investor 81 - 100 Points
Risk Taker / Growth Investor 101 - 120 Points
BIBLIOGRAPHY
BOOKS REFERRED:

WEBSITES:

 www.google.com
 www.karvyonline.com

 www.wikipedia.com

JOURNALS

 Karvy broucher’s
 Karvy hand book