A Study Of Derivatives Into Portfolio Based On Risk Management

The misuse of financial derivatives caused the subprime financial crisis in 2008. Many well-known companies faced financial collapse and lot of investor suffered great losses in that year. The crisis also caused great negative impact on all aspect of society. The tools for measure financial risk show useless when the crisis comes. Thought the crisis many portfolios are not properly using diversify to reduce risks even thought they seemed diversified greatly.It is hard to predict when the storm will come. What we can do is to make effort now to diminish the affect and the loss of financial crisis when the storm coming again in the future. Only when we realize the importance of recognizing the financial risks and knowing how to using derivatives to hedge those risks can we stay safe when facing financial crisis. This risk control mechanism is based on the financial derivatives.This paper researched the nature of financial derivatives by the microscopic viewpoint. Thought this way, we can make clear of how to recognize investment’s risk using properly tools. The final goal is to estabilish a portfolio and contains some derivatives to hedge the portfolio’s risk as a whole. By this way the portfolio’s efficient frontier can moved to the left in different economy stages. That is to reduce the risk of revenue while reduce risk and make a better balance.Since 1952, Markwitz’s Portfolio Theory and JP Morgan’s RiskmetricsVaR came out, they’ve been used widely. This paper used those traditional theory too, but by adding many new elements and new thinking enriched the theories. Many different risk measure methods and performance assess methods getting more thorough insights in this paper.The first part of this paper introduces the concept of risk management, asset risk characteristics’test method, the use of the asset risk measurement tools, the nature of financial derivatives and its trade strategy which can be applied in management of investment risk. The second part is the empirical part to analysis the influence of portfolio’s income and risk after added the financial derivatives, by using different VaR estimates, to assess the influence of using different VaR estimates in the portfolio with different asset.Performance Evaluation variables such as variance may underestimating the risk, even the existence of the return rates itself may facing uncertain risk. Consider the influence of taking the smallest return after eliminating risk prediction value from the possible benefits as the evaluation of asset, taking into account the ways of adjusting the weight of risky assets and risk controlled derivatives in different economic situation, and we finally to build a set of risk-weighted assets, bond assets and derivatives for risk control. Using VaR estimates and portfolio theory and the mathematical formulas to analyzing the new model. It is facilitate the adjust of different ratio of investment risks in different risk stage. Through this research, we get many findings as follows:1. There is a high degree of positive correlation between VaR risk prediction and the decline of risk, which means when VaR is larger,decline in the future will be larger; when VaR is smaller.decline in the future will be smaller.The phenomenon can be seen in stock market crash in 2000 and 2008.2. To replace risk (standard deviation) with VaR, and to replace the revenue rate with the smallest revenue rate by eliminating the greatest risk in the future from the possible gains to be the calculations of MV (Mean-Variance).In the short term upward trend will sacrifice some benefits,but it can reduce the loss of risk, which is possible to get a long-term investment portfolio with good risk management and control of the performance.3. Adding Sharp’s pointer condition to the MV efficient frontier curve in the asset valuation of the portfolio can be more effective to get a good portfolio asset allocation with risk controlled mechanism, but also can enhance the risk hedging function of financial derivatives.4. VaR can be made in advance of option and assessment of the assets, while helping establish a post-warning system of risk management to find the problems earlier as a precaution.Through this research, the biggest problem of investment risk manage-ment is not lack of theoretical tool, but lack of investment risk awareness and management mechanism, and the lack of risk control mechanism is what we need to face up to the very place, because the storm will still come again.