Risk Navigator Webinar Notes

Overview

The IB Risk Navigator can be used to monitor portfolio exposure across an array of asset classes, view various Greek risk measures and run what-if scenarios to understand the impact of making changes to existing holdings. Users can slice portfolios according to underlying equity holdings along with derivatives and use plots to view risk over time as prices change. Holdings can be viewed at an industry or sub-industry level or piece-by-piece and assessed to visualize the impact of increasing or decreasing volatility over time to aid understanding of how changes in the investing climate might positively or adversely impact the value of a portfolio.

Risk Navigator

The IB Risk Navigator is one of many tools available for free to IB clients using the Trader Workstation (TWS). To open it, select Risk Navigator from the New Window dropdown. In legacy TWS, click on the Analytical Tools dropdown box in the main toolbar and Select Risk Navigator from within the Portfolio section towards the bottom of the box. You can also click right on any ticker symbol and select Analytical Tools. Upon opening, the IB Risk Navigator will populate with your existing portfolio. Out of the box the default display for the Navigator shows portfolio holdings by asset class (default is Equity), a plot of aggregate risk displaying portfolio value change versus price change, and a report selection area to its right. Positions, prices, P&L and readings for Delta are reported in real-time. Several other Greek measures of risk are updated less frequently because their values are less likely to change dramatically throughout the day. Note also at the top of the page is the Risk Dashboard, an account viewing area displaying certain values for the overall net liquidation value of the portfolio, P&L, margin requirements and value-at-risk or VAR. The Risk Dashboard can be turned on or off and is available by clicking on the View menu and checking or unchecking the Risk Dashboard item.

Risk Navigator

At this level you can see the aggregate profit or loss and position expressed under the reading of Delta for all holdings. Note that positions are aggregated by common-sizing using the reading of Delta. The reason for this is that while the position in a stock translates one-for-one to Delta, for options Delta is calculated by using position size and price of the option. The portfolio Delta is the sum of all assets contained in the portfolio (unless listed in the lower right corner of the screen) and considers the direction of the position in question.

At the aggregate level, the plot to the lower left of the screen illustrates the impact on portfolio value as the underlying value of the portfolio changes. Only at specific stock level does the share price plot appear along the x-axis. The plot also includes the impact of increasing or decreasing volatility on the value of the portfolio or for individual stocks. You can typically tell a long portfolio or portfolio positive delta from the shape of the curve on the plot. Long portfolios typically carry positively-sloped curves, while short portfolios whose values increase when prices are in decline usually slope lower when reading from left to right.

A portfolio of long only stocks will have positive Delta or exposure while a portfolio including short positions of the same value might show a lower exposure and therefore a smaller reading for Delta.


Designing a What-if Portfolio

For the purposes of this presentation I would like to start from scratch and introduce the idea of the What-if Portfolio. First, this will help me demonstrate how the pieces of a portfolio impact risk and therefore exposure. Second, you will learn that a custom view can be built and saved within TWS to quickly contrast the impact on risk of changes made in advance to your portfolio.

To do this click on the Portfolio dropdown menu from the Risk Navigator main toolbar and select New. It will prompt you to work with your existing portfolio and in this case I am going to select "No". So we now get a new empty window in which we can add a selection of ticker symbols. Note that as this is no longer your live portfolio the window has a red border indicating it is not live. But you can trade from this window after populating it if the changes and adjustments you make suit your overall portfolio. On the left hand side in green note the data entry window.

I am going to add stock and options ticker symbols, taking one company from each of the 10 basic sectors and I will give each one either long or short stock position or just an options combination position. Later I will show you the individual risk profiles commonly associated with each position as well as an aggregated view of the overall portfolio. Here's a list of ticker symbols and the type of position I am adding. (For the following, read and add positions as you go).

Risk Navigator
  • AAPL - Short straddle - short position in same strike put and call
  • BA - Short strangle - short put below share price, short call above share price
  • CVX - Long stock
  • DOW - Short stock, long strangle - long same strike call and put
  • DUK - Bear put spread - long put below share price, short put even further below
  • JNJ - Bull call spread - long call above share price, short call even higher
  • KO - Long stock, long put
  • PG - Covered call, Long stock, short OTM call
  • VZN - Long OTM call, long OTM put
  • WFC - Short stock
  • WMT - Long stock

Once we have created the positions, please note that we can choose to include or exclude it from the Report view by checking or deselecting in the box to the left of the position column. This is useful later when viewing hedged versus unhedged positions or isolating the risk associated with an options combination with and without its stock component.


Report Viewer

Now that we have populated our custom portfolio, we can start to view it in different ways. To drive the display we need to make selections from the report section of the page. The report viewer drives numerical content in the upper panel of the IB Risk Navigator, and also drives the content of the plot to the lower left – more on this later. Selecting Portfolio from the report dropdown box will display "Underlying" and derivative position titles, actual positions we typed for each security along with current price and a market value. If we next select the Risk by Position dropdown from the Report menu, note that we can no longer see the market value, but we are returned an array of commonly used Greek risk measures. On this sheet the Unrealized P&L value is carried over from the P&L tab shown across the top of the page. The Risk by Underlying report not only compiles data across a portfolio but also adds P&L and Greek values at the aggregate level. This is useful because you can immediately learn at a glance certain risk attributes regarding your portfolio including gains or losses, and the magnitude of exposure for a portfolio and its likely momentum in the event of changes in the worth of the portfolio. Before we consider the variety of plot views available, let's first go through the meaning of the Greeks with respect to the reports displayed in IB Risk Navigator.


Delta

This measures the sensitivity of the individual asset or portfolio as a whole to the change in the price of the underlying. A long stock position has a delta of one, while the delta on long call option positions is below one and is determined by its distance from the strike price and time to expiration. Short stock positions have a reading of negative one while long put option positions are generally lower than minus one depending on the proximity of the strike price to the price of the underlying. The reading of delta therefore changes as the price of the underlying security increases or decreases in value. You should be able to tell immediately what your exposure is by checking the reading of delta across the overall portfolio. The position delta tells us the direction and magnitude of exposure to a stock by measuring the sensitivity to change in the price of the option. Delta tells us the expected change in exposure due to a one dollar change in the value of the underlying stock.


Gamma

Is the rate of change of delta. Gamma tells us, based upon the open exposure through an option position, how much delta should change for a dollar shift in the price of the underlying stock.


Vega

An inherent risk to owning stocks is market or company specific volatility. The reading of vega captures the expected impact on exposure or delta, to a one point shift in the reading of implied volatility on the underlying. As volatility increases, in general, options premiums increase which means that exposure, or delta, is also likely to increase.


Theta

The number of remaining days before an option expires is an important component in determining its premium. In general, the longer is the life of an option, the greater is its worth. The reading of theta measures the expected daily loss of premium an option faces. So negative readings for theta illustrate the decaying nature of a wasting asset illustrated as the dollar decline in the value of a portfolio. Positive readings for theta indicate the benefit of short options positions on the portfolio as time elapses.


Value at Risk – VAR

Apart from the Greek readings you can see portfolio and stock specific Value-at-Risk or VAR for short. This is the greatest expected loss over a one day period with a 99.5% confidence interval. Note that VAR is calculated at the underlying security level and computes the expected net change in the value of the derivative holding. At the portfolio level VAR is aggregated across all holdings to give a meaningful net negative number in the event of a bad day for trading.


Plots and Graphs

Having populated a custom portfolio with stock and options positions, we can now consider the various reports that IB Risk Navigator has on display. Below the portfolio to the lower left you will see the plot of whatever we choose to display from the report selector to the lower right of the page. Notice that the report viewer lists the Portfolio view along with a variety of methods of drilling inside your portfolio. We'll look at these shortly.

First, I should explain the plot to the lower left of the panel. Note that while you first must choose a Report, the Plot will return one-of-three available graph formats you choose from the dropdown menu. Those Plots are Equity Portfolio Value Change, Portfolio Value and Equity Delta position. Because the IB Risk Navigator updates in real-time, note that the vertical black line depicts the current price, which will change throughout the day and of course over time. Price changes are displayed along the x-axis for +/-35% moves and map out portfolio value, change or delta assuming an equal percentage price change for the contents of the entire portfolio. Individual securities are displayed not on a relative basis but by change from its current share price.


Confidence Intervals

I should also point out on the plot view the two yellow lines showing the maximum expected daily swings predicted using confidence intervals. This basically takes thousands of historic daily market moves and ranks them before calculating the most likely extreme moves both up and down. This allows you at a glance to see how far a good or bad market day might be expected to impact a portfolio you are running.

The default image displays three similar lines – whatever selection is made from the plot selection box is mapped out using the most recently updated value. There are two lines showing the impact on the portfolio or individual securities, depending on your selection, adjusted by a volatility change. The IB Risk Navigator displays the same impact on your holdings adjusted for a +15% rise in implied volatility as well as a -15% decline in the reading of volatility. This is significant for the value of options positions whose prices are comprised especially of the market's estimate of volatility in coming days and weeks. Indeed, many traders specialize in timing and trading changes in volatility.

Starting at the Portfolio report level from note what happens when I tab between the Equity Portfolio Value Change and the Equity Portfolio Value from the Plot view. While it appears that there is little difference, note the change to the y-axis, whose scale changes. The change in value of the portfolio is more subtle than the overall value of the portfolio (see charts below).


Chart – Equity Portfolio Value Change

Risk Navigator

Chart – Equity Portfolio Value

Risk Navigator

Finally, the third available selection from the drop down menu is Equity Delta position. This displays an investor's exposure according to whether they select the portfolio or individual equity view. Delta is a measure of risk associated with positions. Because the values of options are likely to change in response to shifts up or down in the value of the underlying asset, overall or individual exposure can swing from net long to net short depending on the combination of positions held. Based upon the construction I used in my paper portfolio earlier, this can be illustrated in the chart, which shows the impact on portfolio holdings expressed in delta terms as all underlying prices are assumed to shift up and down by 35%.


Chart – Equity Delta Position

Risk Navigator

Plots

If we now use the Report selector to drill down further we can create some interesting and meaningful views of your portfolio. Earlier I decided to take a selection of individual securities and noted that these represented the 10-basic sectors. We can now view Risk by Industry from the report viewer and choose one of the three Plot views (Equity Value, Change or Delta). Note that when we select the Risk by Industry report, we also cause the appearance of the Industry drop down menu populated with the basic sectors. From here choose any of the sectors and you can further drill-down to Groups and Subgroups. To its left you can see the risk plot associated with this selection, which can be taken down to the individual security. Notice that simply by hovering over the arrow to the right of each sector I can cause the display to change without actually selecting or clicking on a group. It is useful to be able to split out risk exposure by industry and even sub-industry.

The next level to view your portfolio using the Report selector is the Underlying and Maturity view. This shows exposure in Delta format under the All Expiry column and then splits out stock positions and then according to all expiration dates for option positions held. Drilling further down using the Report viewer if we now select the report for Measure by Price Change and Volatility Change note the matrix display that is returned. This matrix performs sensitivity analysis on the portfolio across all underlying positions under changes in volatility. To the left you can see +/-30% price changes across the portfolio.

Note the expand button (blue cross) next to the All Underlying column – you can view piece-by-piece detail regarding price and volatility changes when you expand. Across the top you can see column headers for +/- Volatility changes. A good starting point is the center of the matrix at the intersection of stable prices and unchanged volatility. The values returned illustrate the expected impact on your portfolio the following day. If you have a value in this box, it is likely related to your net theta position, which you can check in the Risk by Underlying report for All Underlyings. So for this example if you are net long options, time decay is likely eating away at your portfolio on a daily basis – that's not necessarily a bad thing – it is simply a characteristic of any option, which is also used to protect against adverse price or volatility movements. You can see by looking at other boxes within the matrix the expected change in the value of your portfolio for several permutations of changing prices and volatility.

Risk Navigator

Finally, you should also note that while the top Measure displays Profit & Loss, other selections are available too including Delta dollars, and the usual Greek risk measures.


More Reports

If we next drive the Report viewer to the Equity Portfolio Statistics selection you can see another table summary of open positions.

Move next to the Value at Risk report to show Portfolio VAR summary statistics, which includes Worst Case, Perfect Correlation and an Index Correlated Price Estimate. These return dollar value at risk under each case. The table below this grid shows the worst case scenario and its impact on the holdings within the portfolio. The worst case is a scenario designed to illustrate worst combination of price movements based upon historic information. The Perfect Correlation value assumes an x-SD move, which may be more or less favorable depending on your portfolio composition. The Index Correlated Price Estimate is based upon the scenario listed and again may deliver better or worse outcome than Worst Case or Perfect Correlation.**

See under Value at Risk report for concise definitions:
https://www.interactivebrokers.com/en/software/tws/twsguide.htm

Risk Navigator

Finally, you can also create a P&L Pie Chart using the Report menu. Note on the left of the screen we can see a ticker-by-ticker view showing Unrealized P&L, Delta Dollars and Delta (Δ). Two of these values are displayed in the accompanying pie chart. The chart shows the same number of pieces as there are securities in your portfolio, each is represented by a slice of the pie. Note that there are two levels to the pie – an inner and outer rings, each of which is color-coded. The inner ring represents Delta dollars by ticker – red for negative delta and green for positive delta positions. The outer ring shows the relative P&L by ticker – red for unrealized losses and green for unrealized gains. Note that both pieces of the pie – inner and outer circle – are activated when you click on any part of the pie. You can also hover the cursor over a piece of the pie to uncover its ticker and associated values.

Note: – Previously we used the raw reading of Delta to explain the sensitivity of portfolio value to a change in the price of an option. At this pie chart level the portfolio is common-sized to display position by Delta in dollar terms.

Risk Navigator

Option Profiles

So far you have seen many of the reports that the IB Risk Navigator creates. Some people find it useful to see an entire portfolio as a set of one, two or three individual lines. Others may, however, wish to see more granular charts for individual stocks and stock and options combinations in order to see risk profiles over time. I now want to take a step back into the Plot function and drill down to the individual security level. Here you will be able to see recognizable plots by option position that you may have seen using other software or educational sites. Earlier, you may recall that I input certain strategies for each of the stocks that I included in the Custom Portfolio. So let me show you how to view individual P&L profiles for some of these.

From the Report selector we first need to select the Risk by Underlying report and from the Underlying dropdown menu select a ticker – in this example I'm choosing Apple (Ticker: AAPL) where I earlier created a short straddle position by entering a same expiration, same strike, short call and short put option combination. In this example the investor bears unlimited risk beyond specific parameters and in exchange takes in a net premium. The plot displays whatever is selected from the Plot dropdown (Equity Value, Change or Delta). The default view is Equity Value Change displayed on screen (chart below).

Risk Navigator

We can also look at the expected portfolio value change at any date between now and expiration by using the Date dropdown menu. The current view displays the expected value change for today only and you will notice that there are three lines – once again these display most recent as well as an assumed +/-15% change in implied volatility. To those of you familiar with option profiles, such as a short straddle position, this view does not quite fit the picture. That's because when normally explained risk profiles for option combinations are displayed at expiration. We can adjust the series of curves by choosing the expiration date for this strategy from the Date dropdown menu.

Risk Navigator

By selecting the expiration date you might recognize the dotted line plotting out the usual view of a short strangle position whose apex, equal to the net premium received for the sale of same strike put and call, intersects at the strike price. Note that the vertical black line represents the current price of the underlying and is accompanied by the two confidence intervals described earlier.

I should also point out that by changing the plot selection to Equity Portfolio Value, you can see the impact on your account for a particular trade given current market pricing. In this case you can see that the apex for this profile in the at expiration scenario strikes the Equity Portfolio Value axis at zero dollars and exactly above the strike price. Note that the most recent or live value displays the current cost of this trade (excluding any commissions) (blue line), and in this case is shown as a negative dollar value or credit to the account. The distance between the two therefore represents the passage of time and its impact on the value of the portfolio.

Risk Navigator

We can see other options profiles associated with various combinations in a similar way. Individually you can view the expected performance of a trade with respect to changes in volatility and underlying prices. In aggregate you can do the same and check ahead of time the impact of potential market scenarios.


Comparing a Custom Portfolio

Clients can use the IB Risk Navigator to compare an existing portfolio with a tailored version side-by-side including changes made to positions or implied volatility or by stepping forward in time. The same can be achieved with a What-if portfolio and in either case live trades can be made directly from the page. In this example I will explain how to duplicate our What-if portfolio, add an options combination and make assumptions about the underlying price as the options' expiration date approaches. For this example I will choose Coca-Cola (Ticker: KO) and create a bull call spread to illustrate the Custom Portfolio approach.


Creating a Custom Scenario

Using the Edit menu we can duplicate the portfolio we want to work with. Now we have a Market Scenario on the left of the screen and a Custom Scenario on the right. The Ticker menu is shown on the right of the page from which we can select individual underlyings to work with. Notice also in the upper right corner of the screen that there are two Green buttons related to each portfolio. Clicking each of these Suspends and Resumes ticking of the respective portfolio. This is useful when you want time to stand still as you tailor your Custom Scenario. In the Plot at the bottom of the page there is an additional dashed line indicating the predicted performance of the Custom Scenario. When the Custom Scenario is initially added this will simply overlay the Most Recent portfolio tracking line. It might change when we make additions to price, date and volatility assumptions.


Adding a Bull Call Spread

Choosing either a new ticker or adding to a vacant position, I will now add a basic bull call spread combination to the Market Scenario. You will see this replicated in the Custom Scenario. Now we can make adjustments to the underlying price by selecting the relevant ticker from the column within the Underlying Price section in the right panel. Let's assume a 20% increase in the share price. Let's also step forward in time to the expiration date of this options combo, which in this case is May 16, 2014. To do this click on the Edit button and use the calendar to choose the right forward date. Notice that both the assumed price increase and the chosen date appear in red. That reminds us that we must finally click the Apply button to the top of the column. Note you can Close the entire column or Reset the data to start over. When we hit Apply the changes are applied to the Custom Scenario. Note the price increment takes effect while the plot maps out the impact on account value under such scenario. And while you can view the impact of this isolated price increase on the entire portfolio you can select the specific ticker to view impact of the change purely on the single company.

Risk Navigator

Volatility

In addition to making price assumptions over time, we can also make volatility changes in similar fashion. Click on the Edit button to select a date and then under the Volatility panel change the desired reading up or down in absolute or percentage terms for a chosen symbol. Click Apply to maintain all changes to view the overall impact as well as the individual impact on chosen tickers.

We can also drive the date beyond options expiration date in order to view the impact on the portfolio. Let's use the Apple short straddle example in the portfolio to demonstrate two things. First let's make a volatility assumption by increasing the level of implied volatility, which should work adversely against the position. At the same time we shall assume an associated decline in the share price as we move closer to expiration.

Risk Navigator

From this view you can see any impact on unrealized P/L in the custom scenario along with changes in Greek values, and the projected worth of the options as we step forward in time. Let's take this a step further by selecting a date using the Edit menu following options expiration. Note that in this case with the price of the underlying assumed to have settled below that of the call strike, this option expires worthless. The put, however, is in the money and the stock is therefore put to the investor. The client now has a long position and as you can tell from the new plot, is challenged by rising losses in the face of further share price declines. Note that the Custom Scenario plots the expected change to the portfolio resulting from changes in the value of the underlying ticker associated with the chosen step-forward date, while the other lines show the expected impact on the associated options positions using the live Market Scenario view in the event that implied volatility gains or fall by 15%.

Risk Navigator

Hedge Basket

From within the IB Risk Navigator it is possible to prepare a group of orders using the Basket Trader to Hedge selected parts or all of your existing portfolio. Clients can determine the share-equivalent measure of stock and option positions as a series of orders that can be transmitted simultaneously. Underlying stock positions will be neutralized while options positions will be offset according to the net delta reading set at the time the basket is created. After the Hedge has taken place previous option combinations and positions will remain intact, but will be offset to the extent of the hedge. To do this select Hedge from the Metrics dropdown in the My Portfolio section of the IB Risk Navigator.


Summary

I have shown you examples of how to tailor small pieces of a Custom Portfolio to examine the impact of changes in price, volatility and time on the portfolio. Of course you may want to experiment on a larger scale with specific price and volatility changes to your own dummy or live portfolios stepping forward in time to examine impacts to your portfolio. To dispense with the Custom Portfolio simply uncheck it from within the View dropdown menu.