44 Frequently Asked Questions In Quantitative Finance
What is CrashMetrics?
Short Answer
CrashMetrics is a stress-testing methodology for eval-
uating portfolio performance in the event of extreme
movements in financial markets. LikeCAPMit relates
moves in individual stocks to the moves in one or more
indices but only during large moves. It is applicable to
portfolios of equities and equity derivatives.
Example
Your portfolio contains many individual stocks and
many derivatives of different types. It is perfectly
constructed to profit from your view on the market
and its volatility. But what if there is a dramatic fall in
the market, perhaps 5%, what will the effect be on your
P&L? And if the fall is 10%, 20%...?
Long Answer
CrashMetrics is a very simple risk-management tool for
examining the effects of a large move in the market as
a whole. It is therefore of use for studying times when
diversification does not work.
If your portfolio consists of a single underlying equity
and its derivatives then the change in its value during a
crash,δ, can be written as
δ=F(δS),
whereF(·) is the ‘formula’ for the portfolio, meaning
option-pricing formulæ for all of the derivatives and
equity in the portfolio, andδSis the change in the
underlying.
