The purpose of this paper is to create a universal (asset-class-independent) portfolio risk index for a global private investor.
The authors first discuss existing risk measures and desirable properties of a risk index. Then, they construct a universal (asset-class-independent) portfolio risk measure by modifying Financial Turbulence of Kritzman and Li (2010). Finally, the average portfolio of a representative global private investor is determined, and, by applying the new portfolio risk measure, they derive the Private investor Risk IndeX.
The authors show that this index exhibits commonly expected properties of risk indices, such as proper reaction to well-known historical market events, persistence in time and forecasting power for both risk and returns to risk.
A dynamic asset allocation example illustrates one potential practical application for global private investors.
As of now, a risk index reflecting the overall risk of a typical multi-asset-class portfolio of global private investors does not seem to exist.
We would like to thank Octavio Fernández-Amador, several anonymous referees, seminar participants at the 8th Workshop of Empirical and Experimental Economics at the University of Innsbruck, as well as conference participants at the 2013 Forecasting Financial Markets Conference, the 2013 Finance and Economics Conference and the 2013 World Finance Symposium for very helpful comments and suggestions.
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