SD-07.1 — Market Risk Management

Business Domain: BD-07 Investment Risk (Middle office) · Applies: BOTH

Purpose

Measures and controls the portfolio’s exposure to movements in market prices, interest rates, credit spreads and volatility. Market Risk Management is the core of the investment-risk function: it quantifies how much the portfolio can lose to market moves, decomposes that risk into its sources, and tracks it against the risk-appetite limits. It runs in two measurement paradigms — the continuously-priced paradigm for liquid public markets, and the non-priced paradigm for private markets and illiquid real assets — with neither the default.

Service Operations

• Compute value-at-risk and expected shortfall — value-at-risk by the parametric, historical-simulation and Monte-Carlo methods, and expected shortfall as the coherent tail measure; backtest the model.
• Measure sensitivities — the equity and option Greeks, duration and DV01/PV01, key-rate durations, convexity and spread duration.
• Run the factor risk model — decompose predicted total risk and active risk (tracking error) into common-factor and asset-specific components.
• Measure private-markets return risk — for illiquid holdings, apply NAV de-smoothing and smoothing-adjusted return statistics so the measured risk is not understated by stale, smoothed valuations.
• Decompose and attribute risk — by asset class, factor and source, so the risk’s drivers are visible.
• Monitor the investment risk models — backtest and review the value-at-risk and factor models the function relies on; the enterprise model inventory and independent validation are SD-14.4’s.

Inputs and outputs

• Inputs: position holdings, market data (prices, yield curves, volatility surfaces), benchmark constituents, covariance and factor-exposure matrices; for private holdings, the valuation series.
• Outputs: value-at-risk and expected-shortfall figures, tracking error, the risk decomposition and the sensitivity ladders — recorded as Risk Measurement (E-19), consumed by SD-07.7 (limit governance and reporting) and BD-09.

Entities

• Consumes: Holding / Position (E-04, book = ibor for intraday measures, book = abor for period-end), Valuation (E-07, any method), Price & Market Data (E-08), Portfolio / Mandate (E-03).
• Owns: E-19 Risk Measurement on the risk_type = market partition — VaR, expected shortfall, factor sensitivities, the continuously-priced market-risk results. SD-07.1 is the sole authoritative source for this partition; SD-07.7 is the consumer for consolidated reporting and limits-breach detection

Standards

• The CFA Institute treatment of measuring and managing market risk; the RiskMetrics value-at-risk methodology; the vendor factor and risk models (MSCI Barra, RiskMetrics, Aladdin Risk). No single standard spans the two measurement paradigms.

Open extensions

• The third level decomposes the continuously-priced and non-priced paradigms explicitly; neither is the default.
• The boundary with SD-14.4 — SD-07.1 uses and monitors its own risk models; SD-14.4 owns the enterprise model inventory and independent validation.