The risk model
Three sectors / eleven sub-sectors / seven styles and trading factors
Structure
Returns are expressed through a small set of common drivers plus a return specific to each contract.
Loadings are observed. Factor returns are estimated cross-sectionally, across all contracts, for each period.
The loadings are sector and sub-sector membership together with styles and trading factors, with sub-sectors nested inside sectors so that the two views agree.
The output is a set of exposures, a factor covariance matrix and factor returns, from which risk, value at risk, attribution and stress tests follow.
Style factors
Styles and trading factors cut across the hierarchy rather than sitting inside any one sector, and are estimated jointly with it.
| Factor | Definition |
|---|---|
| Basis | Log difference between the price of a contract at a maturity beyond the front month and the front-month contract. |
| Momentum | Return over the full year excluding the last 30 days. |
| Short-term momentum | Return over the last 30 days. |
| Open interest | Open interest for each contract. |
| Trading activity | One-day change in open interest for each contract. |
| Volatility | One-year historical daily standard deviation of contract returns. |
| Short-term volatility | Daily historical volatility over the last 30 days. |
Every descriptor is standardized and winsorized. Exposures are reported as z-scores, where zero is the average across the model universe.
Output
An illustrative, non-client-specific book of 26 equally weighted futures, 13 long and 13 short, scored against the model universe.
Exposure
Solid bars are net long exposure; hollow bars are net short.
Decomposition
Sector exposure nets to almost nothing, so the book reads as hedged at the sector level. The risk is in the styles: basis and momentum together account for most of the systematic contribution.
| Annual ex-ante volatility | Contribution |
|---|---|
| Total risk | 7.4% |
| Agriculture | 0.2% |
| Energy | 0.0% |
| Metals | 0.2% |
| Basis | 2.5% |
| Open interest | −0.2% |
| Momentum | 1.5% |
| Short-term momentum | 0.0% |
| Trading activity | 0.0% |
| Volatility | 0.3% |
| Short-term volatility | 0.7% |
| Specific risk | 5.4% |
Figures illustrate model outputs and are neither realized performance nor a forecast.