At Parmenion Group we actively manage Investment Risk. We do so by implementing our proprietary Cerutti Risk Budgeting System in such a way that various quantitative and qualitative risk proxies will be analysed simultaneously. Analysing and managing these risks leave us with higher investment returns than we would have if we were to avoid risk in general.

 

How do we do it?

We do this by disentangling the composite risk scores of potential and existing investment opportunities. The extracted data delivered to us by this analysis presents valuable information on various types of risk. Risk that seldomly or never translates into excess returns, but also risk associated with consecutive potential excess returns. The latter category is an interesting one, asking for investment exposure.

 

The Rhyme of History

Although we do not believe that history will repeat itself time and again, we do agree with Mark Twain who once added that ‘although this may be true, history has a more than decent rhyme!’ We have incorporated this ‘historical rhyme’ in three different ways within the quantitative component of our active risk management system:

Historical Indicators within the Quantitative Component of our Active Risk Management System

  1. The ‘Classics’
    Volatility, Beta and Correlation are calculated using a 36-month interval. When there are no monthly prices available we will use a proprietary system for the derivation of proxies. We incorporate in our analysis not only the absolute levels of these risk indicators, but pay attention to trend patterns in them as well.
  2. Stress Test
    The behavior of asset or asset class returns during the biggest crises of the last 50 years is analyzed in detail. Investments in the bottom tertile in terms of negative sensitivity will be vetoed. Allocations to investments in the top tertile will go through as recommended by the investment team. Allocations in the second tertile can be adjusted downward by up to 50% by Parmenion’s Investment Policy Committee.
  3. Nicanor Bankruptcy Prediction Model
    The proprietary Bankruptcy Prediction Model of Group company Nicanor IC will be used. This provides an indication of a company’s fundamental quality. Investments in the bottom tertile in terms of prediction model scores are vetoed.

Next to these three historical quantitative risk indicators, our team is also convinced of the added value and forecasting qualities of the VIX score and implied volatility levels of relevant option series. Behavioral Economics has taught us that market participants as a group react in a flawed way, especially when these indicators reach extreme levels.

 

Most investors go with the flow

 

Periods of extremely low values of VIX and implied option volatility cause typically lethargic investor behavior. These investors are avoiding or at least reducing investments in risky assets. Periods of extremely high values of VIX and implied option volatility are characterized by an overreacting investor. Unless one believes that the end of the world as we know it is near, investment in selected risky assets could be increased.

 

There is more that meets the quantative eye

 

Risk is not just a quantitative risk at Parmenion Group. We also look at other aspects. Under the guidance of the Chief Risk Officer (CRO) the investment team will undertake a thorough due diligence procedure in which operational, legal, management, governance and regulatory issues are carefully studied. One or more face-to-face meetings with representatives of the investment target will be part of the procedure. In this phase the CRO can veto specific investment propositions.

The active risk management does not stop when investments are made. Ongoing monitoring will take place and this could translate into a sell-off later on. During the holding period of the investments the risk management team will also try to enhance the net investment returns – if applicable – through an active risk mitigation strategy in which the negative impact of adverse market or currency sentiment will be isolated.