Buy Side Borrows Sell-Side Risk Management Techniques

Terry Flanagan

A key challenge for buy-side firms is to ensure that the market data and pricing models driving their net asset valuations are consistent with those used as part of their risk calculations.

Markit, a provider of pricing and analytics services, is offering standardized cross-asset datasets together with a powerful risk calculation engine to enable customers to measure liquidity, funding and market risk more accurately and efficiently.

“In the past, buy side firms might perform valuations in-house or get third-party evaluations, while at the same time they would go to a separate provider for risk calculations,” said Nosheen Khan, product manager in Markit’s Portfolio Valuations unit. “By providing a single analytics library driving both valuations and risk calculations, we are ensuring that the two are consistent.”

Markit has enhanced its Portfolio Valuations services with a risk analysis platform which provides a fully-hosted solution for calculating the market risk within a portfolio of trades.

The platform has been used by sell-side firms to conduct risk CVA [credit valuation adjustment] calculations. “It’s a powerful simulation engine used by Tier One banks for CVA [credit valuation adjustment] and VaR [Value at Risk] calculations,” said Khan. “We are now delivering this to the buy side.”

The calculation of VaR is critical to measuring the market risk of a portfolio.

“VaR is the measure of market risk that most banks use,” Khan said. “VaR specifics what the expected loss in a portfolio is over a given time horizon and a given level of confidence. Firms can use historical data to asses VaR as well as perform use Monte Carlo simulations. One of the advantages we bring is that the same data that’s used to calculate mark-to-market is used to calculate VaR.”

Markit Portfolio Valuations has also launched a scenario analysis service, which enables customers to stress test the market data inputs used to generate valuations.

“Our clients need to assess the impact of market movement on the positions they hold,” Khan said. “Using scenario analysis, they can model how those portfolios will perform under different sets of assumptions, as well as determine how much collateral they will need to post.”

Industry drivers for the calculation and disclosure of VaR and stress tests results include the UCITS IV and Alternative Investment Fund Manager directives, CESR guideline 10-788, IFRS 4 and 7, and Solvency II.

“There is merit in establishing a global capital standard,” said Jaime Caruana, general manager of the Bank for International Settlements, in a speech in March. “After all, one might argue that you cannot effectively supervise globally active firms without having a consistent, comparable quantitative standard.”

Markit’s Portfolio Valuations service calculates the value of vanilla and exotic derivative positions, across asset classes.

Markit expanded its valuations business by acquiring QuIC Financial Technologies, which provides risk analytics solutions to test market and credit risk tolerance in financial portfolios and simulate risk at the enterprise level.

By combining Markit’s strengths in data and valuations with QuIC’s analytics expertise, the acquisition has enabled Markit to meet the growing demand for risk analytics and enterprise risk management services.

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