Portfolio insurance makes risk affordable

Article Abstract:

Portfolio insurance, also known as dynamic hedging, offsets risky investments (stocks and bonds) with cash reserves. As certain investments increase in value, the cash reserved is invested into more equities; as the investments depreciate in value, stock and bonds are converted to cash. Cash reserves are often increased (as required by dynamic hedging ratios) by investing in futures, rather than cashing in equities. Usage of portfolio insurance or dynamic hedging is analyzed for various types of investors, including money managers (who generally hold smaller cash reserves) and fund managers (who more frequently respond to equities risk by changing cash reserve amounts). Because portfolio insurers buy on strength and sell on weakness, their market activities are predictable and many of them fear a phenomenon known simply as 'herd instinct,' which if too prevalent could hurt markets. However, there are many investors willing to trade off the portfolio insurers' risk aversion, among them arbitrageurs and a group of commercial hedging clients. These groups' activities on the market are described and explained. It is concluded that wider spread use of portfolio insurance will not harm either the markets or the users of dynamic hedging.

Economic aspects, Risk management, Portfolio insurance

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Negotiating the 'bazaar' world of investment managers

Article Abstract:

A registered investment adviser (RIA) works with brokers rather than competing with them in investment portfolio management. More than 10,000 RIAs are currently listed with the SEC, and each has unique skills in dealing with the constant stream of newly invented securities. Investors should first evaluate their own investment objectives and risk tolerance, then conduct a search for an RIA with suitable expertise. Investors should clearly understand an RIA's investment process and carefully examine RIA performance data prior to making a final selection. Quarterly reviews and frequent conversations with portfolio managers are a further safeguard for funds.

Management, Investment advisers, Financial planners

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