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ETF Risk Models

Author

Listed:
  • Zura Kakushadze
  • Willie Yu

Abstract

We discuss how to build ETF risk models. Our approach anchors on i) first building a multilevel (non-) binary classification/taxonomy for ETFs, which is utilized in order to define the risk factors, and ii) then building the risk models based on these risk factors by utilizing the heterotic risk model construction of [Kakushadze, 2015b] (for binary classifications) or general risk model construction of [Kakushadze and Yu, 2016a] (for non-binary classifications). We discuss how to build an ETF taxonomy using ETF constituent data. A multilevel ETF taxonomy can also be constructed by appropriately augmenting and expanding well-built and granular third-party single-level ETF groupings.

Suggested Citation

  • Zura Kakushadze & Willie Yu, 2022. "ETF Risk Models," Bulletin of Applied Economics, Risk Market Journals, vol. 9(1), pages 1-17.
    • Handle: RePEc:rmk:rmkbae:v:9:y:2022:i:1:p:1-17
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    References listed on IDEAS

    as
    1. Zura Kakushadze, 2015. "Heterotic Risk Models," Papers 1508.04883, arXiv.org, revised Jan 2016.
    2. Itzhak Ben‐David & Francesco Franzoni & Rabih Moussawi, 2018. "Do ETFs Increase Volatility?," Journal of Finance, American Finance Association, vol. 73(6), pages 2471-2535, December.
    3. Agapova, Anna, 2011. "Conventional mutual index funds versus exchange-traded funds," Journal of Financial Markets, Elsevier, vol. 14(2), pages 323-343, May.
    4. Zura Kakushadze & Willie Yu, 2019. "Machine Learning Risk Models," Papers 1903.06334, arXiv.org, revised Apr 2019.
    5. Zura Kakushadze, 2015. "Shrinkage = Factor Model," Papers 1511.04764, arXiv.org, revised Dec 2015.
    6. Jun (Tony) Ruan & Tongshu Ma, 2012. "Ex‐Dividend Day Price Behavior Of Exchange‐Traded Funds," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 35(1), pages 29-53, March.
    7. Timothy Krause & Sina Ehsani & Donald Lien, 2014. "Exchange-traded funds, liquidity and volatility," Applied Financial Economics, Taylor & Francis Journals, vol. 24(24), pages 1617-1630, December.
    8. Fama, Eugene F & MacBeth, James D, 1973. "Risk, Return, and Equilibrium: Empirical Tests," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 607-636, May-June.
    9. Christopher P. Clifford & Jon A. Fulkerson & Bradford D. Jordan, 2014. "What Drives ETF Flows?," The Financial Review, Eastern Finance Association, vol. 49(3), pages 619-642, August.
    10. Zura Kakushadze & Jim Kyung-Soo Liew, 2014. "Custom v. Standardized Risk Models," Papers 1409.2575, arXiv.org, revised May 2015.
    11. Zura Kakushadze & Jim Kyung-Soo Liew, 2015. "Custom v. Standardized Risk Models," Risks, MDPI, vol. 3(2), pages 1-27, May.
    12. Jeff Madura & Thanh Ngo, 2008. "Impact of ETF inception on the valuation and trading of component stocks," Applied Financial Economics, Taylor & Francis Journals, vol. 18(12), pages 995-1007.
    13. Zura Kakushadze, 2014. "4-Factor Model for Overnight Returns," Papers 1410.5513, arXiv.org, revised Jun 2015.
    14. Zura Kakushadze & Willie Yu, 2019. "Machine Learning Risk Models," Journal of Risk & Control, Risk Market Journals, vol. 6(1), pages 37-64.
    Full references (including those not matched with items on IDEAS)

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    More about this item

    Keywords

    ETF; risk model; covariance; correlation; risk factor; optimization; growth; value; industry classification; quant; trading; stock; bond; equity; commodity; currency; volatility; real estate; alternatives; multi-asset; diversification; portfolio; credit rating; duration; maturity; market cap.;
    All these keywords.

    JEL classification:

    • G00 - Financial Economics - - General - - - General
    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors

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