#

#
#
#
#
#
#
#
#
#
#
#
#

econ589riskMeasures.r
R examples for lectures on estimating risk measures
Eric Zivot
April 2nd, 2012
update history
April 23rd, 2013
Fixed reversal of axis labels in scatterplot
April 17th, 2012
Added risk analysis from multivariate distribution examples
April 16th, 2012
Added multivariate distribution examples

# load libraries
library(PerformanceAnalytics)
library(quantmod)
library(MASS)
library(mvtnorm)
library(mnormt)
options(digits=4)
#
# Example: Normal VaR
#
mu = 10
sigma = 100
alpha = 0.95
VaR.alpha = qnorm(alpha, mu, sigma)
VaR.alpha
# alternative approach
VaR.alpha = mu + sigma*qnorm(alpha,0,1)
VaR.alpha
#
# Example: normal ES
#
mu = 10
sigma = 100
alpha = 0.95
q.alpha.z = qnorm(alpha)
ES.alpha = mu + sigma*(dnorm(q.alpha.z)/(1-alpha))
ES.alpha
#
# Estimating risk measures
#
# download data
symbol.vec = c("MSFT", "^GSPC")
getSymbols(symbol.vec, from ="2000-01-03", to = "2012-04-03")
colnames(MSFT)
start(MSFT)
end(MSFT)
# extract adjusted closing prices
MSFT = MSFT[, "MSFT.Adjusted", drop=F]

GSPC = GSPC[, "GSPC.Adjusted", drop=F]

# plot prices
plot(MSFT)
plot(GSPC)
# calculate returns
MSFT.ret = CalculateReturns(MSFT, method="simple")
GSPC.ret = CalculateReturns(GSPC, method="simple")
# remove first NA observation
MSFT.ret = MSFT.ret[-1,]
GSPC.ret = GSPC.ret[-1,]
# create combined data series
MSFT.GSPC.ret = cbind(MSFT.ret,GSPC.ret)
# plot returns
plot(MSFT.ret)
plot(GSPC.ret)
#
# calculate nonparametric risk measures
#
# standard deviation
apply(MSFT.GSPC.ret, 2, sd)
# empirical 5% and 1% quantiles (historical VaR)
apply(MSFT.GSPC.ret, 2, quantile, probs=c(0.05, 0.01))
# historical 5% and 1% ES
ES.fun = function(x, alpha=0.05) {
qhat = quantile(x, probs=alpha)
mean(x[x <= qhat])
}
apply(MSFT.GSPC.ret, 2, ES.fun, alpha=0.05)
apply(MSFT.GSPC.ret, 2, ES.fun, alpha=0.01)
# plot 5% VaR and ES for MSFT
VaR.MSFT.05 = quantile(MSFT.ret, probs=0.05)
ES.MSFT.05 = mean(MSFT.ret[MSFT.ret <= VaR.MSFT.05])
plot(MSFT.ret)
abline(h=VaR.MSFT.05, col="blue", lwd=2)
abline(h=ES.MSFT.05, col="green", lwd=2)
legend(x="topright", legend=c("5% VaR", "5% ES"), lwd=2, col=c("blue", "green"))
# use PerformanceAnalytics functions
args(VaR)
VaR(MSFT.GSPC.ret, p=0.95, method="historical")
ES(MSFT.GSPC.ret, p=0.95, method="historical")
#
# normal VaR and ES
#
mu.hat = apply(MSFT.GSPC.ret, 2, mean)
sigma.hat = apply(MSFT.GSPC.ret, 2, sd)
q.05.norm = mu.hat + sigma.hat*qnorm(0.05)
q.01.norm = mu.hat + sigma.hat*qnorm(0.01)

es.05.norm = -(mu.hat + sigma.hat*dnorm(qnorm(0.05))/0.05)

es.01.norm = -(mu.hat + sigma.hat*dnorm(qnorm(0.01))/0.01)
mu.hat
sigma.hat
q.05.norm
q.01.norm
es.05.norm
es.01.norm
#
# VaR and ES from Student's t distribution
normal.es.fun = function(x, alpha=0.95){
}
es.05 = apply
# use PerformanceAnalytics functions
VaR(MSFT.GSPC.ret, p=0.95, method="gaussian")
ES(MSFT.GSPC.ret, p=0.95, method="gaussian")
# plot SE(VaR.alpha)
alpha.vals = seq(from=0.001, to=0.10, length.out=25)
sigma = 0.1
nobs = 100
se.q = (sigma/sqrt(nobs))*sqrt(1 + 0.5*qnorm(alpha.vals)^2)
plot(alpha.vals, se.q, type="b", pch=16, col="blue",
main="Standard Error of Normal Quantile", ylab="SE", xlab="1 - alpha")
#
# VaR and ES based on student's t distribution
#
# use fitdistr() from MASS package
?fitdistr
# Fit Student's t distribution by MLE
# assume MSFT.ret is student's t with parameters mu, sigma and v
# note: E[MSFT.ret] = mu, var(MSFT.ret) = sigma^2 * (v/(v-2))
# scale returns by 100 to improve numerical stability of MLE
MSFT.t.mle = fitdistr(MSFT.ret*100, densfun="t")
MSFT.t.mle
theta.hat = coef(MSFT.t.mle)
# rescale estimates
mu.MSFT.t = theta.hat["m"]/100
sigma.MSFT.t = theta.hat["s"]/100
v.MSFT.t = theta.hat["df"]
# Standard t quantiles
q.t.05 = qt(0.05, df=v.MSFT.t)
q.t.01 = qt(0.01, df=v.MSFT.t)
# Estimated t Quantiles for MSFT
q.MSFT.t.05 = mu.MSFT.t + sigma.MSFT.t*q.t.05
q.MSFT.t.01 = mu.MSFT.t + sigma.MSFT.t*q.t.01
q.MSFT.t.05
q.MSFT.t.01

t.adj.05 = (dt(q.t.05, df=v.MSFT.t)/0.05)*((v.MSFT.t + q.t.05^2)/(v.MSFT.t - 1))

t.adj.01 = (dt(q.t.01, df=v.MSFT.t)/0.01)*((v.MSFT.t + q.t.01^2)/(v.MSFT.t - 1))
es.MSFT.t.05 = -(mu.MSFT.t + sigma.MSFT.t*t.adj.05)
es.MSFT.t.01 = -(mu.MSFT.t + sigma.MSFT.t*t.adj.01)
es.MSFT.t.05
es.MSFT.t.01
# simulate data from fitted Student's t distribution
# t.v ~ standardized Student t with v df. E[t.v] = 0, var(t.v) = v/(v-2)
set.seed(123)
t.sim = mu.MSFT.t + sigma.MSFT.t*rt(n=10000, df=v.MSFT.t)
q.t.sim = quantile(t.sim, probs=c(0.05, 0.01))
es.t.05 = mean(t.sim[t.sim <= q.t.sim[1]])
es.t.01 = mean(t.sim[t.sim <= q.t.sim[2]])
q.t.sim
es.t.05
es.t.01
#
# Cornish-Fisher or Modified VaR and ES
#
# use PerformanceAnalytics functions
# Modified VaR
modifiedVaR.05 = VaR(MSFT.GSPC.ret, p=0.95, method="modified")
modifiedVaR.01 = VaR(MSFT.GSPC.ret, p=0.99, method="modified")
# Modified ES
modifiedES.05 = ES(MSFT.GSPC.ret, p=0.95, method="modified")
modifiedES.01 = ES(MSFT.GSPC.ret, p=0.99, method="modified")
# results are strange! VaR = ES!!!!
modifiedVaR.05
modifiedVaR.01
modifiedES.05
modifiedES.01
#
# portfolio risk measures
#
# equally weighted portfolio of MSFT and GSPC
port.ret = 0.5*MSFT.ret + 0.5*GSPC.ret
colnames(port.ret) = "port"
# plot(port.ret)
mean(port.ret)
sd(port.ret)
sd(as.numeric(port.ret))
# computing portfolio vol using covariance matrix
Sigma.hat = cov(MSFT.GSPC.ret)
w = c(0.5, 0.5)
sqrt(t(w)%*%Sigma.hat%*%w)
# estimating contributions to Vol
sigma.p.hat = as.numeric(sqrt(t(w)%*%Sigma.hat%*%w))
mcr.vol = Sigma.hat %*% w / sigma.p.hat

cr.vol = w * mcr.vol
pcr.vol = cr.vol / sigma.p.hat
cbind(mcr.vol, cr.vol, pcr.vol)
# check
sigma.p.hat
sum(cr.vol)
sum(pcr.vol)
# using PerformanceAnalytics function StdDev
StdDev(MSFT.GSPC.ret, portfolio_method="component",
weights=c(0.5, 0.5))
#
# nonparametric measures of risk budgets
#
# VaR
VaR(port.ret, p=0.95, method="historical")
VaR(port.ret, p=0.99, method="historical")
# ES
ES(port.ret, p=0.95, method="historical")
ES(port.ret, p=0.99, method="historical")
#
# Bivariate distributions for MSFT and GPSC
#
# Empirical scatterplots
plot(coredata(MSFT.ret), coredata(GSPC.ret),
main="Empirical Bivariate Distribution of Returns",
ylab="GSPC", xlab="MSFT", col="blue")
abline(h=mean(GSPC.ret), v=mean(MSFT.ret))
# empirical portfolio return distribution
chart.Histogram(port.ret, main="Equally Weighted Portfolio", methods=c("add.norm
al", "add.qqplot"))
# simulate from fitted multivariate normal distribution
# method 1: use mvtnorm package
library(mvtnorm)
n.obs = nrow(MSFT.GSPC.ret)
# estimate mean and covariance
mu.hat = apply(MSFT.GSPC.ret, 2, mean)
Sigma.hat = cov(MSFT.GSPC.ret)
Cor.hat = cov2cor(Sigma.hat)
mu.hat
Sigma.hat
Cor.hat
set.seed(123)
sim.ret = rmvnorm(n.obs, mean=mu.hat, sigma=Sigma.hat, method="chol")
# scaterplot of simulated returns
plot(sim.ret[,1], sim.ret[,2],
main="Simulated Bivariate Normal Distribution of Returns",
ylab="GSPC", xlab="MSFT", col="blue")
abline(v=mean(sim.ret[,1]), h=mean(sim.ret[,2]))

# superimpose both scatterplots

plot(coredata(MSFT.ret), coredata(GSPC.ret),
main="Empirical vs. Bivariate Normal",
ylab="GSPC", xlab="MSFT", col="blue")
abline(h=mean(GSPC.ret), v=mean(MSFT.ret))
points(sim.ret[,1], sim.ret[,2], col="red")
legend(x="topleft", legend=c("Empirical", "Normal"), col=c("blue", "red"), pch=1
)
# simulated equally weighted portfolio
port.ret.sim = 0.5*sim.ret[,1] + 0.5*sim.ret[,2]
chart.Histogram(port.ret.sim, main="Equally Weighted Portfolio",
methods=c("add.normal", "add.qqplot"))
# portfolio risk measures from normal distribution
# volatility
StdDev(port.ret)
# VaR
VaR(port.ret, p = 0.95, method="gaussian")
VaR(port.ret, p = 0.99, method="gaussian")
# ES
ES(port.ret, p = 0.95, method="gaussian")
ES(port.ret, p = 0.99, method="gaussian")
# fitting bivariate student's t to data - see SDAFE ch 5
library(MASS) # needed for cov.trob
library(mnormt) # needed for dmt
df = seq(2.1,5,.01) # 551 points
n = length(df)
loglik_max = rep(0,n)
for(i in 1:n)
{
fit = cov.trob(coredata(MSFT.GSPC.ret),nu=df[i])
loglik_max[i] = sum(log(dmt(coredata(MSFT.GSPC.ret),mean=fit$center,
S=fit$cov,df=df[i])))
}
max.lik = max(loglik_max)
v.mle = df[which(loglik_max == max.lik)]
plot(df, loglik_max, type="l", main="Profile Likelihood for Bivariate t", lwd=2,
col="blue")
abline(v=v.mle, lwd=2, col="red")
# extract mle of mu and sigma given v.mle
fit.mle = cov.trob(coredata(MSFT.GSPC.ret),nu=v.mle)
mu.mle.t = fit.mle$center
Sigma.mle.t = fit.mle$cov
mu.mle.t
# show covariance matrix
Sigma.mle.t*(v.mle/(v.mle - 2))
Cor.mle.t = cov2cor(Sigma.mle.t*(v.mle/(v.mle - 2)))
Cor.mle.t
# simulate portfolio returns
# use result that Y = mu + sqrt(v/W)*Z is multivariate t
# generate Z ~ N(0, Sigma.mle.t)

set.seed(123)
Z = rmvnorm(n=n.obs, mean=c(0,0), sigma=Sigma.mle.t(v.mle/(v.mle - 2)))
# generate W ~ chi-sq(v.mle)
W = rchisq(n.obs,df=v.mle)
# simulate bivariate t
sim.ret.t = mu.mle.t + sqrt(v.mle/W)*Z
colnames(sim.ret.t) = c("MSFT","GSPC")
# plot simulated data together with actual returns
plot(coredata(MSFT.ret),coredata(GSPC.ret),
main="Empirical vs. Bivariate t",
ylab="GSPC", xlab="MSFT", col="blue")
abline(h=mean(GSPC.ret), v=mean(MSFT.ret))
points(sim.ret.t, col="red")
legend(x="topleft", legend=c("Empirical", "Multivariate t"), col=c("blue", "red"
), pch=1)
# compute simulated returns
port.ret.sim.t = 0.5*sim.ret.t[,"MSFT"] + 0.5*sim.ret.t[,"GSPC"]
chart.Histogram(port.ret.sim.t, main="Equally Weighted Portfolio: Student's t",
methods=c("add.normal", "add.qqplot"))
# calculate VaR and ES from simulated returns
# volatility
StdDev(port.ret.sim.t)
# VaR
VaR(port.ret.sim.t, p = 0.95, method="historical")
VaR(port.ret.sim.t, p = 0.99, method="historical")
# ES
ES(port.ret.sim.t, p = 0.95, method="historical")
ES(port.ret.sim.t, p = 0.99, method="historical")
# ES risk budgets
# note: ES seems to choke if data is passed in as a matrix without rownames
rownames(sim.ret.t) = as.character(index(MSFT.ret))
names(port.ret.sim.t) = rownames(sim.ret.t)
sim.ret.t = zoo(sim.ret.t, as.Date(rownames(sim.ret.t)))
port.ret.sim.t = zoo(port.ret.sim.t, as.Date(names(port.ret.sim.t)))
# rownames(sim.ret.t) = as.character(1:n.obs)
port.ES.decomp = ES(sim.ret.t, p=0.95, weights=c(0.5, 0.5),
portfolio_method="component", method="historical")
VaR.p = quantile(port.ret.sim.t, prob=0.05)
idx = which(port.ret.sim.t <= VaR.p)
mcES = port.ES.decomp[["realizedcontrib"]]*port.ES.decomp[["-r_exceed/c_exceed"]
]/0.5
# mcETL plot for MSFT
par(mfrow=c(2,1))
# plot fund data with VaR violations
plot.zoo(port.ret.sim.t, type="b", main="Portfolio Returns and 5% VaR Violations
",
col="blue", ylab="Returns")
abline(h=0)
abline(h=VaR.p, lwd=2, col="red")
points(port.ret.sim.t[idx], type="p", pch=16, col="red")
# plot factor data and highlight obvs associated with R <= VaR
plot.zoo(sim.ret.t[, "MSFT"], type="b", main="Mean of MSFT when PORT <= 5% VaR",

col="blue", ylab="Returns")
abline(h=0)
abline(h=-mcES["MSFT"], lwd=2, col="red")
points(sim.ret.t[idx, "MSFT"], type="p", pch=16, col="red")
par(mfrow=c(1,1))