Fully Flexible Views: Theory and Practice

TL;DR

This paper introduces a comprehensive methodology for incorporating non-linear views into complex, non-normal markets, enabling stress-testing, scenario analysis, and ranking without the need for repricing, applicable to derivatives and complex portfolios.

Contribution

It presents a unified, efficient approach for handling non-linear views in general markets, including an analytical solution and practical implementation code.

Findings

Methodology handles non-linear views in non-normal markets

No repricing needed for complex derivatives

Provides an analytical benchmark solution

Abstract

We propose a unified methodology to input non-linear views from any number of users in fully general non-normal markets, and perform, among others, stress-testing, scenario analysis, and ranking allocation. We walk the reader through the theory and we detail an extremely efficient algorithm to easily implement this methodology under fully general assumptions. As it turns out, no repricing is ever necessary, hence the methodology can be readily applied to books with complex derivatives. We also present an analytical solution, useful for benchmarking, which per se generalizes notable previous results. Code illustrating this methodology in practice is available at http://www.mathworks.com/matlabcentral/fileexchange/21307