Analytical Behavioral Computing Approach to Asset and Risk Management

- Establish justifications for a New Middle Office on Performance Management

by Dr. Ye from a Pending Patent

 

1. Introduction and Definition:

A (mutual/hedge) fund's past performance (e.g., in Sharpe ratio, Ye 2011, pp204) may not predict its future performance due to market volatility. For example, some funds generally outperforming market indexes under-performed the market largely in 2011 (empirical reference).
Yet the attributes of a fund manager's decision style may be persistent and stable over time. We create a novel approach with algos to assess the persistent behavioral attributes (i.e., the decision styles) of fund managers, including decision bias, sensitivity to opportunities, and performance in a ROC (receiver operating characteristic) space.
As the behavioral attributes of fund managers will be analyzed quantitatively and market volatility (risk) is thus controlled, this novel approach is labeled as the analytical behavioral computing (ABC) approach for risk management and fund performance (asset) management. ABC entails a conceptual framework (see Section 3) and a set of analytical algos (see Section 4). ABC will be part of the behavioral finance literature and practice that incorporate analytical behavioral computing approaches to asset management.
The ABC approach gives rise to a new data model and database with fund expense ratio, return, volatility (publicly available data), and dprime, bias, and ROC data (derived from algos). As a result, the database outputs reports on top 50 funds and fund managers from over 18000 funds.
 
2. Research Questions:
2.1 How is fund performance determined? (Attribution Theory; Control/Stability; see the Yeswici Framework in Section 3)
a. fund managers' decision styles - internal & stable
b. environmental factors - external & stable, external & unstable
2.2 How much (percentage) of a fund's performance can be explained by fund managers' decision styles?
2.3 How much (percentage) of a fund's performance can be explained by dprime, bias, and ROC?
2.4 How to compare and choose funds based on fund managers' ROC performance? The result of the ABC analysis will be especially useful for pension funds and endowments on investment choice.

 

3. ABC Conceptual Framework on Fund Performance Attributions:

Fund managers may use this framework to explain fund performance to investors in letters or conferences. Investors may organize fund managers' explanations and evaluate various funds' performance with this framework.

 

4. ABC Quantitative Tooling to Visualize Fund Managers' Decision Styles:

Institutional investors may use the visual ROC results to compare and evaluate fund managers' performance and decision styles. Email info@yeswici.com for details.

 

5. Use Cases
5.1 Lift investor confidence with a framework for comprehensive insights via investor letters and conference calls.
5.2 Achieve more returns and less volatility for investors to restructure (retain, acquire, drop) holdings based on empirical evidence.
5.3 Establish justifications for a new middle office on performance management, linking the front office to the back office.

 

6. Theoretical Implications
6.1 Overall investing workflow: investors, funds, fund managers, asset allocation, holding components, component returns and volatility.
6.2 Asset pricing at fund (composite) level: traditional approach vs. behavioral finance approach.
6.3 Risk management by controlling external and unstable risks

 

7. Computing Outputs
7.1 Create data model and database with fund expense ratio, return, volatility (publicly available data), and dprime, bias, and ROC data (derived with the algos)
7.2 Generate reports on top 100 fund managers from 18K+ funds
7.3 Diffuse reports via Kindle, Web

 

8. Preliminary Output - Top 50 Funds in 2012
Rydex Biotechnology A
Wells Fargo Adv Growth Fund C
Saratoga Adv Tr-Health & Biotech A
Neuberger Berman Genesis Instl
Neuberger Berman Genesis Inv
Neuberger Berman Genesis Tr
RS Select Growth A
Saratoga Adv Tr-Health & Biotech B
PIMCO Convertible Fund D
PIMCO Convertible Fund A
PIMCO Convertible Fund C
FBR Gas Utility Index Fund
SouthernSun Small Cap Inv
Fidelity Select Medical Delivery
Delaware SMID Cap Growth I
Williston Basin/Mid-NAmer Stock A
Prudential Jennison Health Scien Z
Delaware SMID Cap Growth A
Prudential Jennison Health Scien A
Delaware SMID Cap Growth R
T. Rowe Price Health Sciences
JHT Health Sciences Trust Ser I
Delaware Pooled Focus Smid-Cap Gr E
Delaware SMID Cap Growth C
Delaware SMID Cap Growth B
Prudential Jennison Health Scien B
Prudential Jennison Health Scien C
Invesco Small Companies Inst
Invesco Small Companies A
Invesco Small Companies R
Wells Fargo Adv Growth Fund Inst
Rydex Consumer Products Inv
Wells Fargo Adv Growth Fund Adm
Fidelity Select Pharmaceuticals
Rydex Consumer Products A
Delaware Select Growth I
Invesco Small Companies B
Invesco Small Companies C
Vanguard Consumer Staples Index Adm
Wells Fargo Adv Growth Fund A
Rydex Consumer Products Adv
Live Oak Health Sciences
Wells Fargo Adv Growth Fund Inv
Delaware Select Growth A
T. Rowe Price New Horizons
Delaware Select Growth R
Saratoga Adv Tr-Health & Biotech I
Rydex Biotechnology Inv
Rydex Consumer Products C
Conestoga Cap Adv Small-Cap Fund