Delta-Sigma Attribution: Understanding Differences in Risk

Abstract

Investors face the challenge of understanding changes in risk. Did a recent increase in risk come from turnover into more aggressive positions, a spike in market volatility, or a loss of diversification? Which of the investor’s positions drove the change? Which parts of the market became more risky? A related issue is understanding differences among risk models. Do such differences indicate a weakness of one of the models, or do they provide insight into the evolving structure of the markets? The delta-sigma attribution framework addresses these issues by relating a change in risk to the underlying portfolio and market variables driving the change.