Almost nine out of 10 (88%) asset managers have increased expenditure on stress testing funds in the past year amid challenging market conditions, a new report by Clearwater Analytics has revealed.
A combination of rising interest rates, restricted market liquidity and geopolitical instability are increasing the risk of sudden and disorderly market dislocations. To reduce the risk of portfolio losses over the next 12 months, half (49%) of asset managers surveyed said they will employ enhanced quantitative risk modelling or stress testing to identify where they are exposed to market risk.
Asset managers also face growing concern that traditional diversification strategies may offer less protection during extreme market events as correlations between asset classes rise under stress conditions.
More than half (54%) of asset managers say they will increase their focus on defensive stocks with less sensitivity to market moves and strong balance sheets. Furthermore, 56% of asset managers say they will put protective puts in place, which means buying options on major indices such as the S&P 500.
Meanwhile, a third (34%) of respondents say they will use volatility products such as buying call options or futures on the CBOE Volatility Index, which gain value as equities fall to mitigate severe losses. Just under a quarter (22%) said they will allocate to tail risk funds in the next 12 months and 16% will invest in real assets.
Kirat Singh, president of risk and alternative assets at Clearwater Analytics, said: “Traditional risk assumptions are being challenged by a combination of higher volatility, reduced dealer balance sheet capacity and greater geopolitical uncertainty.
“It is no surprise that asset managers are turning to stress testing and scenario modelling because they want faster access to accurate, consolidated investment data to better evaluate how portfolios may behave during left-tail events and make more informed risk management decisions.”
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