Hey guys, I would have one question for you, please: ==> does ROMAD consider optionality, I guess yes since there is no standard deviation in there, please correct me if I m wrong. and what about Sortno? Thanks, M.

Anything using standard deviation is going to assume normality, and therefore, not going to take into consideration securities with non-normal return distributions (like options). Sortino measures risk using downside deviation, which is essentially the volatility below some MAR.

PeteyPete Wrote: ------------------------------------------------------- > Anything using standard deviation is going to > assume normality, and therefore, not going to take > into consideration securities with non-normal > return distributions (like options). > > Sortino measures risk using downside deviation, > which is essentially the volatility below some > MAR. so Sortino accounts for optionality? thought both standard deviation and downside deviation are not good for optionality… thanks, M.

malek_bg Wrote: ------------------------------------------------------- > PeteyPete Wrote: > -------------------------------------------------- > ----- > > Anything using standard deviation is going to > > assume normality, and therefore, not going to > take > > into consideration securities with non-normal > > return distributions (like options). > > > > Sortino measures risk using downside deviation, > > which is essentially the volatility below some > > MAR. > > so Sortino accounts for optionality? thought both > standard deviation and downside deviation are not > good for optionality… > > thanks, > M. help plz ==> is downside deviation fine for optionality? thanks, M.

I don’t think so as it considers standard deviation which is below MAR. For non-normal returns we do not take standard deviation and hence no DD. But check the book if you have. I am not an expert.

So which ratio is good for non-normal return/risk measurement?

cfaboston28 Wrote: ------------------------------------------------------- > I don’t think so as it considers standard > deviation which is below MAR. For non-normal > returns we do not take standard deviation and > hence no DD. > > But check the book if you have. I am not an > expert. thought so, too, but I remember seeing somewhere that Sortino is fine for optionality and since it is using downside deviation, I was wondering whether downside deviation is okay with options.

This is confusing now. I have also seen somewhere that Sortino is Good. I may be wrong in my previous post. We need an expert or CFAI curriculum to answer this question.

ROMAD takes optionality into account because the denominator is based on actual numbers regardless of what causes it; normality or optionality. Downside deviation in Sortino assumes normality because it is simply the standard deviation on the downside, hence it does not take optionality (skewness) into account.

I think Sortino does take into account optionality. Better measure because it doesn’t consider big fluctuations of positive returns and penalize a manger for them.

Per the CFAI text page 268 of book 5. The Sharpe ratio is the most widely used method for calculating risk adjusted return. Nevertheless, it can be inaccurate when applied to portfolios with significant non-linear risks, such as option positions. In part for these reasons, alternative risk adjusted return methodologies have emerged over the years including… RAROC RoMAD Sortino (so from that context it looks like all three provide a measure that may be better to Sharpe ratio with the presence of optionality)

GMofDen Wrote: ------------------------------------------------------- > I think Sortino does take into account > optionality. > Better measure because it doesn’t consider big > fluctuations of positive returns and penalize a > manger for them. it does not penalize the manager because of his positive returns. if a manager achieves consistent positive returns, he will look like he is taking too much risk unless he achieves the same positive return each period. this has nothing to do with optionality i guess. Sortino uses downside deviation which is the semi-variance (square root) below a required level of return. It assumes normally distributed returns. In case of an MBS or hedge fund, it will not work well just like the Sharpe ratio. ROMAD will not suffer.

But you can have optionality with the performance and within the returns for the Sortino. If you successfully have a return strategy using options and never go below the threshold of the lower bound, the sortino ratio takes into account the performance considering the optionality. (does that make any sense?)

elemterefish Wrote: > > Sortino uses downside deviation which is the > semi-variance (square root) below a required level > of return. It assumes normally distributed > returns. In case of an MBS or hedge fund, it will > not work well just like the Sharpe ratio. ROMAD > will not suffer. Elemterefish is right, and I should’ve been more explicit in my first post…Sortino has the same problems b/c it measures risk in much the same way as standard deviation