Sie sind auf Seite 1von 9

Performance Attribution of Options:

Defining Single-Stock Option


Exposures and Understanding the

T
A
Brinson-Fachler Effects

M
R
FO
STUART MORGAN

Y
N
A
IN
P
STUART MORGAN erformance attribution involves Individual securities (i.e., no

LE
is an analyst at Wingate breaking up an investment portfolio aggregation)
Asset Management in

C
into its constituent components in Asset type (i.e., cash, equities, puts,
Melbourne, Australia.

TI
stuart.morgan@wingategroup. order to analyze the drivers of the and calls)
portfolios performance. This article exam- Industry grouping (e.g., GICS sectors)

R
com.au
ines what information a performance analyst
may gain when analyzing a portfolio con-
A The first step in performance attribu-
IS
taining (single-stock) options. In particular, tion is to calculate the contributions to return
TH

the article discusses the following four basic for each component i, where i = 1, , n and
option strategies: there are n components in the portfolio. It is
E

therefore necessary to determine each com-


C

Long calls ponents weight or exposure wi, as well as the


U

Naked puts return r i from that component. These two


D

Covered calls factors yield the components contribution to


O

Protective puts return CTRi :


R
EP

There are countless ways in which to T i = w i ri


CTR (1)
R

aggregate the individual securities or com-


ponents of a particular portfolio in order to When the portfolio contains derivative
TO

analyze a portfolios performance. The idea instruments, it is sometimes the case that the
behind this is to group securities into sec- definitions of exposures and returns are ill-
L

tors, however they are defined, that tend to defined and/or non trivial. The performance
A

be somewhat correlated. A performance ana- analyst therefore has to choose which defini-
G

lyst will then be able to determine the degree tion to use. The overarching principle of this
LE

and sign of a portfolios relative performance article is that all choices made in the calcula-
tion of performance attribution should ref lect
IL

that is due to exposures to particular secu-


rities within the sectors, known as stock the portfolio managers investment style. If a
IS

selection, as well as the degree and sign of portfolio contains single-stock options, then
a portfolios relative performance that is due the choice of definition of exposure and
IT

to being over- or under-weighted in the sec- return should depend on how the portfolio
tors themselves, known as asset allocation. manager uses those options.
Some of the more common aggregations for
this type of portfolio are:

WINTER 2014 THE JOURNAL OF PORTFOLIO M ANAGEMENT 103


Copyright 2014

JPM-MORGAN.indd 103 1/17/14 1:46:07 PM


This article has two purposes: the first is to discuss Ai ( i i )( i ) (2a)
how single-stock options should be treated in attribu-
Si i (i i ) (2b)
tion analyses, including a proposal for a new method of
defining exposures for options. The second purpose is Ii ( i i )( i i ) (2c)
to discuss how the various attribution effects are affected
by the choice of component aggregation. For simplicity, The sum of the three BF attribution effects for the
the time frame will always be taken to be a single day, whole portfolio is equal to the relative performance of
and the portfolio will be taken to be a single-currency the portfolio against the benchmark:
portfolio (U.S. dollars), with no external f lows over
the period. This means that the arithmetic attribution r = i i
effects will add without the need to employ smoothing i i

algorithms. = ( i )(i + i i )
i i

RELATIVE ATTRIBUTION = S + ( i i )( i i ) + ( i i )i
i

In relative attribution, the exposures and returns, = S +I +


as well as an appropriate benchmark, need to be defined ( i i )
i i
for the portfolio. I will use Latin letters to refer to the =S+I +A
portfolio and its securities (with the exception of delta,
used for options in the usual way), and the corresponding The final term of the second-to-last line is equal to
Greek letters to refer to the benchmark. The exposures zero, since the sum of all over(under)weights of a port-
and returns for the benchmark will therefore be denoted folio compared to a benchmark is zero. This term can
by i and i, respectively. If components are combined then be combined with the other remaining term by
arithmetically, the overall return r for the portfolio and bringing the benchmarks total returninside the
for the benchmark is the sum of the contributions to sum, yielding the Allocation effect. If the term was
return: not introduced into this line, then the remaining term of
the second-to-last line is actually equal to the Allocation
r = w i ri ; = i i effect as defined by Brinson et al. [1986].
Securities can be aggregated in any number of
The components are themselves made up of one different ways to form the components or sectors
or more securities. The contribution to return of each of a portfolio. In general, the BF effects will differ for
component can likewise be determined from the expo- each choice of aggregation. For example, if a portfolio
sures and returns of these securities. The exposure for a has n number of sectors and j = 1, ni securities in
component can be determined by simply summing the each sector, then the Allocation effect for the ith sector
exposures of the securities within that component. The will still be defined as per Equation (2a). However, the
return of the component can be determined by either weights wi and i for the portfolio and benchmark are
calculating the weighted-average return of the securi- the total exposure to the sector in question. In terms of
ties, or simply dividing the contribution to return by the the sectors constituent securities:
exposure of the component. ni
The exposures and returns of the components of
a portfolio can be compared to that of the benchmark
wi w j (3a)
j
in order to calculate various attribution effects. The most ni

common such method is due to Brinson and Fachler [1985], i = j (3b)


j
hereafter referred to as the BF attribution. This model
calculates three attribution effects: Allocation A = Ai ,
Selection S Si and Interaction I = I i (where, again,
The return for the sector to the benchmark is
the weighted average return of the sectors constituent
i = 1,n and n is the number of components).
securities:

104 P ERFORMANCE ATTRIBUTION OF OPTIONS WINTER 2014

JPM-MORGAN.indd 104 1/17/14 2:14:23 PM



ni
OPTION EXPOSURES
j j
=
j

(3c)
i ni
j
Stannard [1996] outlines two ways to calculate the
j
exposures of single-stock options. The first way is to use
If the Allocation effect did not depend upon the the direct value of the option itself, with no reference to
aggregation, then, with j = 1, , ni securities in the the underlying security. In other words: for Ni options
sector, the aggregated Allocation effect would be equal contracts (in contracts of size 1 share per contract1) and
to the sum of the Allocation effects for each security in pi option price, the direct exposure in a portfolio of
that sector: value V is given by:
ni N i pi
Ai ( j j )(j ) (4)
wi =
V
j
0 1
where Ai is defined in Equation (2a) and the weights For option prices pi at the end of day zero1 and pi
at the end of day one, the return is simply ri = pi0 1 and
pi
and returns are defined in Equations (3). Equation (2a)
becomes: the contribution to return for component i is the product
of the exposure and the return, which is equal to:
ni
ni ni

Ni 1
w j j ni

j j
Ai
j
T i=
CTR ( pi pi0 ) (6)
j j
j
V0
j

ni
ni
= wj
j j j ni ni Stannard argues against using this approach. I will

ni j
j j j j argue below that the direct exposure method may be
appropriate, depending upon how the portfolio manager
j
j j

uses the options.


The last two terms have attained the form of Equa- Stannards second way to calculate exposures for
tion (4) as required. However, it is not true, in general, options is to combine the option position with a cash
that: exposure. This exposure is equal to the options delta i
multiplied by the price of the underlying Si :
ni ni j j ni
i
w j j ni = w j ( ) wi =
Ni Si
j j
j
j
j V

Stannard calls this the full exposure, but I shall


Therefore, the assumption that the Allocation call it the delta exposure or delta position. A cor-
effect does not depend upon the choice of aggregation responding (virtual) security must be included in the
does not hold in general, and so the proposition that portfolio in order that the sum of all exposures in the
the Allocation effect does depend upon the choice of portfolio is equal to one. This virtual security, called
aggregation has been proven by contradiction. Similar offsetting cash for the option, is equal to the dif-
arguments hold for the other two BF effects: they will ference between the delta exposure and the direct
vary with the choice of aggregation. exposure:
I will henceforth incorporate the Interaction into
the Selection effect. However, all arguments below can N i ( pi i i )
be simply modified so as to explicitly include the Inter- cash offset = (7)
V
action effect, without changing the substance of the
arguments, if one were to choose to do so. The modified The easiest way to calculate the return is to realize
Selection will be denoted S* and is defined as: that the dollar return will be the same as it was for the
direct exposure calculation. Then:
Si wi ( i i ) (5)

WINTER 2014 THE JOURNAL OF PORTFOLIO M ANAGEMENT 105

JPM-MORGAN.indd 105 1/17/14 1:46:09 PM


N i ( pi1 pi0 ) Ni (i i pi0 )
ri = wi = (8)
N i i0Si0 V0
pi1 pi0
= The variable l = 1 depending upon whether the
i0Si0 option is a call (positive) or a put2. Note that Ni will be
positive or negative depending upon whether the option
The harder way to calculate the return is to com- is long or short. Since the option is backed by cash, a
pare the delta exposure at the end of day one to the end cash-offset needs to be included in a similar way to the
of day zero. One might be tempted to calculate the delta exposure example.
return based simply upon these two exposures. How- However, in this case, the option value is explic-
ever, this does not take into account what happens to the itly included in the option position rather than in the
cash offset. For example, if the value of delta changes so offsetting cash as it is for the delta exposure. The off-
that less(more) cash is needed to offset the delta expo- setting cash will not change, since it is based on the
sure, then this contributes to the delta position as an strike price, which is a constant. This means that the
income(expense) amount. return calculation is based purely on the option posi-
The third, new, way to calculate exposures is to tion (which includes the gross exposure for the cash).
use the gross exposure. Let us first define four basic The return is:
option strategies:
Xi  i pi1
Long calls: Calls are bought in order to gain expo- ri = 1 (9)
Xi  i pi0
sure to the upside of a stock. Broadly speaking, cash
is turned into stock as the underlying share price X i pi1
rises, and this is a bullish strategy.
Explicitly, the return for a long call is
1 X i pi0
1; for
a short put it is X i pi0 1 .
Naked puts: Puts are sold short in order to receive X i pi
the option premium. Broadly speaking, cash is The bearish strategies are backed by shares, and so
turned into stock as the underlying share price the gross exposure is:
falls, and this is a bullish strategy.
Covered calls: Calls are sold, which cover shares Ni (  i i0 pi0 )
wi = (10)
in the portfolio. Broadly speaking, stock is turned V0
into cash as the share price rises, and this is a bearish
strategy. Rather than using an offsetting cash position, the
Protective puts: Puts are bought, which protect bearish strategies will have an offsetting equity position.
shares in the portfolio. Broadly speaking, stock is The underlying equity position declines by the absolute
turned into cash as the share price falls, and this is value of Ni, and the value of these shares shifts into the
a bearish strategy. option position. The return is:

Other option strategies can be defined as combina- Si1 pi1


ri = i
1 (11)
tions of these. For example, a call option sold short with Si0 i pi
0

no covered shares can be thought of as a combination of


covered calls and short shares. Long puts can be thought Consider a covered call that is in the money. If the
of as protective puts and short shares. Alternatively, underlying equity increases in value, then the intrinsic
the methods discussed below can be modified so as to value of the (short) call option will increase by the same
explicitly account for these types of option strategies. amount. Therefore, if there is no change in time value
The four basic option strategies can be separated of the option, the return will be zero. In other words,
into two groups, bullish and bearish, for which the gross the change of the option position in this case is simply
exposure is calculated differently. The bullish strategies the change in time value of the option.
are backed by cash, and the gross exposure is defined as:

106 P ERFORMANCE ATTRIBUTION OF OPTIONS WINTER 2014

JPM-MORGAN.indd 106 1/17/14 1:46:10 PM


The following four examples illustrate the differ- value to $435,000, a gain of 6.10%. The stock return
ences among the three exposure measures. Consider a and exposure is the same as in the long call example.
portfolio that begins with $200,000 in cash and 2,000 Exhibit 2 details the exposures and returns for the
shares with a value of $105 per share. By the end of day option component for the three different approaches
zero, the portfolio has either bought or sold 10 contracts, for this example.
of contract size 100, of call or put options for $8, which The third example is that of a covered call. This
is the price of the option at the end of day zero. strategy shifts 1,000 of the shares out of the stock com-
At the end of day one, the underlying increases to ponent and into the option component. On day one, the
$115 per share. For call options, the value increases to portfolio benefits from the increase in the stock price, but
$18, and the delta increases from 0.4 at the end of day this benefit is limited to the uncovered shares, which
zero to 0.5 at the end of day one. For put options, the achieve a return of 9.52% on an exposure of 25.61%, for
value decreases to $3, and the delta decreases from 0.5 a contribution of 2.44%. As mentioned earlier, since this
at the end of day zero to 0.4 at the end of day one. The option is in-the-money, the gain for the covered shares
four examples consider each of the basic option strate- is eliminated by a corresponding loss in intrinsic value
gies. In all examples, the portfolio has a beginning value for the covering call options.
of $410,000. Exhibit 3 details the exposures and returns for
The first example is that of a long call, where $100,000 the option component for this example. This portfolio
is shifted from the cash component to the option compo- increases in value to $420,000 at the end of day one,
nent. On day one, the portfolio benefits from the stock which is a gain of 2.44%.
price increasing as well as the option price increasing, such The fourth and final example is that of a protective
that the value increases to $440,000a gain of $30,000, put. This strategy also shifts 1,000 of the shares out of
or 7.32%. The stock component has a return of 9.52%, the stock component and into the option component.
with an exposure of 51.22%, for a contribution to return On day one, the portfolio benefits from the increase in
of 4.88%. The option component return depends upon value of the shares, but mitigating this gain is a loss in
the choice of exposure. Exhibit 1 details the exposures and (time) value of the put option. The stock component,
returns for the three different approaches. with an exposure of 25.61%, increases in value by 9.52%,
The second example is that of a naked put. This for a contribution of 2.44%. However, the option com-
strategy shifts $100,000 from the cash component to ponent, with an exposure of 27.56%, increases in value
the option component in the same way as the long by just 4.42%, for a contribution of 1.22%. Overall the
call example. On day one, the portfolio benefits from portfolio increases in value to $425,000 at the end of day
the stock price increasing as well as the option lia- one, which is a gain of 3.66%.
bility decreasing, such that the portfolio increases in

EXHIBIT 1 EXHIBIT 3
Long Call Example Covered Call Example

EXHIBIT 2 EXHIBIT 4
Naked Put Example Protective Put Example

WINTER 2014 THE JOURNAL OF PORTFOLIO M ANAGEMENT 107

JPM-MORGAN.indd 107 1/17/14 1:46:10 PM


CHOOSING THE EXPOSURE the direct exposure, except in the latter the underlying
shares are explicitly included in the options category.
The choice of exposure for single-stock options in One should be aware that performance of the
the attribution analysis should properly ref lect the invest- underlying shares under the direct exposure method will
ment style of the portfolio manager. As an example, overstate positive performance and understate negative
the Wingate Asset Management equity strategy uses performance in the case of a covered call (and the oppo-
exchange-traded single-stock options to enter and exit site in the case of a protective put) due to the asymmetric
long-only large cap equity positions. Instead of buying nature of the covering call option. The contribution to
the underlying shares, Wingate will sell a naked put return for the options component considers the option
option to gain exposure to that stock. The cash needed without reference to the underlying shares, whereas this
to buy the shares is set aside in the case that the options is explicitly included in the gross exposure method.
are assigned to the fund. In other words, Wingate makes The delta exposure method has the same contri-
an allocation decision over the whole of that cash (gross) bution to return as the direct exposure method, but
exposure. the exposure is modified by delta. The contribution to
This is in contradistinction to a portfolio manager return should be compared against the contribution to
who allocates only the delta-adjusted exposure to that return of the underlying shares in order not to exag-
stock position. This latter type of portfolio has a dynamic gerate the contribution of the underlying shares. If this
cash-offset figure which changes in step with changes is done, then the contribution to return for the options
in delta. It would clearly be more appropriate to use the including the underlying shares will be the same under
delta-adjusted exposure in the attribution analysis for the delta exposure method as it will be for the gross
this type of portfolio. exposure method.
A third portfolio manager might choose to allocate The difference is that the delta exposure method
only the bare minimum amount of cash to the short has an offsetting virtual cash position that increases
put positionthe collateral required by the managers as the option goes more in the money. However, in
clearer or the options exchange. In this case, it would most cases this cash will not be available for the port-
be most appropriate to substitute delta for the collat- folio manager to invest elsewhere, and so there will be
eral factorthe proportion of the gross exposure that an effective overallocation to cash in the attribution
is required for collateral. analysis. This problem is minimized in portfolios that
A fourth portfolio manager might trade in options use delta hedging, for example.
for which she does not need to post collateral, or only Other issues with using the delta exposure
needs to post a minimal amount of collateral. This port- include:
folio manager considers the options themselves to be
assets. For this portfolio, a performance analyst should Computational complexity, especially with regard
choose to use the direct exposure method in any per- to calculating a cash-offset amount that changes on
formance attribution. a daily basis
In all four of these cases, the contribution to return Incomplete historical data records of delta
for naked put options over the time period remains unaf- The change in value of the share price may indeed
fected by the choice of exposure. The exposure deci- be a good approximation for the change in value
sion affects only the exposures and the resulting returns of the delta position, but this is only true if the
to the portfolio for each security or component. This change in option price (or share price) is small. If
is appropriate, since the proportion of offsetting cash this approximation does not hold, then there is no
chosen by the portfolio manager is an allocation decision, advantage in using delta in the first place.
as shall be seen below. The same is true for long calls.
For the bearish strategiesthe covered call and the
SECURITY ATTRIBUTION
protective putthe options are backed by shares rather
than cash, and the contribution to return is impacted The Selection effect of Equation (5) has two fac-
by the choice of exposure in the attribution analysis. tors: the weight of the security in the portfolio and the
The gross exposure in this case is similar in concept to relative performance of that security compared to the

108 P ERFORMANCE ATTRIBUTION OF OPTIONS WINTER 2014

JPM-MORGAN.indd 108 1/17/14 1:46:11 PM


benchmark. If a portfolio contains a particular secu- portfolio managers trading effectiveness and the effec-
rity but does not trade in the security over the time tiveness of the options strategy vis--vis a portfolio that
frame of the attribution, then the Selection effect at the was simply long in the shares of the underlying stock.
security level will be identically zero: the security has Thus, the attribution analysis explicitly accounts for the
identical performance in the portfolio as it has in the options strategy.
benchmark. A fund that uses covered calls or protective puts
The corollary to this is: if there is a Selection effect would have a positive Allocation effect with the gross
for a particular security, then there has been trading exposure method if the stock outperforms the market,
done in the security over the attributions time frame. As and a negative one if the stock underperforms the
such, the Selection effect for a performance attribution market, thus indicating whether or not the stock was
by security (i.e., no aggregation) actually gives a measure selected well. Net of any trading effects, the Selection
of the trading effectiveness of the portfolio manager. effect will be positive if the share price decreases (indi-
On the other hand, the Allocation effect of Equa- cating a beneficial options strategy) and negative if the
tion (2a) has two factors: the active weight of the share price increases (indicating the options strategy
security compared to the benchmark, and the relative hindered performance).
performance of that security compared to the bench-
marks return as a whole. This means that the Alloca- ASSET TYPE ATTRIBUTION
tion effect at the security level is actually a measure of
security selection. The individual Allocation effects can An asset type attribution for a portfolio containing
give some indication of which particular allocations to shares and options aggregates securities by the following
securities provided large magnitudes of relative return. sectors:
For this reason, it is useful to explicitly include all non-
benchmark securities in the attribution analysis. Equities
The sum of the allocation effects for the portfolio Puts
has only limited usefulness in performance analysis, Calls
since it is simply the portfolios out(under)performance Cash
net of any trading effects.
A near alternative to attribution by individual Note that the delta exposure would effectively
security is to aggregate the securities by parent com- remove the puts and calls asset types, since these would
pany. Consider a fund that consists of cash and naked simply fall into the equities category (with respect to
put options. The performance analyst could use the delta their respective delta-adjusted exposures). The gross
exposure for this analysis, but this will not reveal much exposure method is therefore useful in answering the
about the effectiveness of the options strategy, since the question of whether or not the options strategy added
attribution will provide the same results as if the fund value. Note also that the bearish strategies would shift
were made up of cash and a delta-adjusted number of some of the equities exposure out of the equities cat-
(long) shares in the underlying stock of the put options. egory and into the calls category under the gross expo-
In other words, this analysis is agnostic about whether sure method.
the performance was achieved by shares or by options. The calculation of the exposure and return num-
That being said, the Selection effect will provide a mea- bers in the equities sector is trivial. If the benchmark is
sure of trading effectivenesswhich could be useful in an index, then the Allocation effect will be identically
determining the cost of portfolios that employ dynamic zero, since the return to the benchmark for the equi-
delta hedging, for example. ties sector is the same as the total return of the bench-
A fund that uses naked put options or long calls mark. The total attribution effect is therefore given by
to gain exposure to a stock could instead use the gross the Selection effect. This effect simply indicates how
exposure method. The resulting Allocation effect from well the portfolios equities performed compared to the
the attribution by parent company indicates how well benchmark.
the portfolio manager selected stocks. The Selection The return calculation for each put option is given
effect, on the other hand, is the sum of two things: the in Equation (9), such that the return for the put sector is

WINTER 2014 THE JOURNAL OF PORTFOLIO M ANAGEMENT 109

JPM-MORGAN.indd 109 1/17/14 1:46:11 PM


the weighted average return of all of the put securities offsets from the cash balance. If there is no currency
(weighted by the gross exposure). The exposure and the effect, then there will also be no Selection effect, and
return of the puts sector can then be used to calculate the resulting Allocation effect will also be the total attri-
the attribution effects. However, a question still remains: bution effectwhich shall be called the Cash effect.
what is the return i to the benchmark for the puts sector? The return to an index benchmark for the cash sector
This is not well defined, since there are no puts in the is defined to be zero. Therefore, assuming the portfolio
benchmark. There are two obvious possibilities: is not leveraged, the Cash effect will be positive if the
The first possibility is to use the return of the puts benchmark is negative over the period, and negative if
sector to the portfolio as the return to the benchmark. the benchmark is positive. This will be reversed if the
The Selection (and interaction, if one insists) effect is portfolio is leveraged (in other words, if it has a negative
then identically zero. This leaves only the Allocation cash exposure).
effect, which reduces to:
GICS SECTOR ATTRIBUTION
Ai wi ( i ) (12)
A GICS sector type attribution is a very common
since the puts sector has zero weight in the benchmark. method of attribution, and the process is well known.
Note that this looks very similar to a Selection effect. The only complexity for a portfolio of equities, options,
The only difference is that i in Equation (5), the return and cash is to properly define the exposures and returns
to the benchmark for the sector, has been replaced by , for the separate GICS sectors. The delta exposure
the total return of the benchmark. method will yield the same results as if a delta-adjusted
This Allocation type effect is also the total effect number of shares had been used in the portfolio instead
for the puts sector. It simply indicates the effectiveness of the options.
of the portfolio managers put options strategy. Note For the gross exposure method, each put and call
that this differs from the Selection effect in the parent option must be allocated to the GICS sector of the
company attribution only in the sense that the latter underlying stock. The exposure for long calls and naked
assumes the portfolio manager would have otherwise puts is the gross exposure, and the exposure for covered
bought the equities of the underlying stock instead of calls and protective puts is the direct exposure (which
selling the puts; the former assumes the portfolio man- will be the same as the gross exposure in this case).
ager would have bought the index rather than the indi- The return for each sector is the weighted average
vidual equities. return of all securities, where the performance of equity
The second possibility is to use the total return of securities is calculated in the usual manner. The perfor-
the benchmark as the return of the benchmark in the mance of bullish options is calculated as per Equation
puts sector. In this case, the Allocation effect is iden- (9), and the performance of bearish options is calculated
tically zero. The Selection effect reduces to the same as the direct return of the options themselves.
form as the Allocation effect in Equation (12), which The Allocation effect indicates the portfolio man-
is also the total attribution effect for the sector. It is not agers effectiveness in allocating to GICS sectors. The
easily determined whether this effect has been caused Selection effect indicates how well the portfolios chosen
by allocation or selection, so I propose to name it stocks performed within the sector, together with the
the Put effect instead. effectiveness of the options strategy. The trading effec-
The exposure for the calls sector is calculated as tiveness and effectiveness of the options strategy can
the sum of direct exposures for all the call options in be separated by aggregating the securities by asset type
the portfolio. The return is the weighted average return within each GICS sector.
of the call options. The Allocation and Selection effects
have the same issues as the put sector. Therefore there is CONCLUSION
only one effect, the total attribution effect, which shall
be called the Call effect. One might argue that it would be better to use
The exposure to the cash sector for the portfolio the delta exposures when calculating exposures of the
is calculated by adding and subtracting all option cash respective components (for example, GICS sectors),

110 P ERFORMANCE ATTRIBUTION OF OPTIONS WINTER 2014

JPM-MORGAN.indd 110 1/17/14 1:46:11 PM


regardless of what the portfolio manager intended when effectiveness). The Put effect and the Call effect from
entering the option position, since the delta exposure the asset-type aggregation yield important information
gives a more accurate picture of the portfolios exposure about the effectiveness of the portfolio managers options
to each sector. However, such an attribution would com- strategy. And the Cash effect indicates the opportunity
monly overestimate a portfolios allocation to cash. cost or benefit of not being fully invested in the market
This is less obvious with naked puts and long calls (or of being overinvested in the market for a leveraged
than it is for protective puts and covered calls, since with portfolio).
the latter two types of options there is no actual cash
freed up by an increase in (magnitude of ) delta. Unless ENDNOTES
the portfolio is, say, a hedge fund that has the facility to
1
borrow against this virtual cash, there is no cash that the If one desired to explicitly include the option contract
portfolio manager can use in other opportunities. size Ci in these calculations, then substitute Ni for NiCi.
I argue, however, that just as the whole of the
2
It is the sign of i.
underlying equity position is often used as collateral
for a covered call, so too the whole of the underlying REFERENCES
cash position (the gross exposurethe amount of cash
needed to buy the shares) is often used as the collat- Brinson, G.P., and N. Fachler. Measuring Non-U.S. Equity
eral or offsetting cash for a naked put position. In these Portfolio Performance. The Journal of Portfolio Management,
Vol. 11, No. 4 (1985), pp. 73-76.
cases, it is more appropriate to consider the exposure
to the option position as the gross exposure, since that Brinson, G.P., L.R. Hood, and G.L. Beebower. Determi-
is how much of the portfolio has been allocated to the nants of Portfolio Performance. Financial Analysts Journal,
position. Vol. 42, No. 4 (1986), pp. 39-44.
In any case, a performance analyst can answer
particular questions about the effectiveness of option Stannard, J.C. Measuring Investment Returns of Portfolios
strategies by calculating the performance attribution Containing Futures and Options. The Journal of Performance
with appropriate aggregations. To obtain the fullest Measurement, Vol. 1, No. 1 (1996), pp. 27-33.
picture of a portfolios performance, the analyst should
calculate the BF attribution effects, where the securities
are aggregated by GICS sector (along with any other To order reprints of this article, please contact Dewey Palmieri
aggregation in which the analyst is interested, such as at dpalmieri@ iijournals.com or 212-224-3675.
market capitalization) as well as calculating the BF attri-
bution effects for two aggregations: parent company
and asset type.
The Selection effect from the parent company
aggregation will indicate the effectiveness of the port-
folio managers options strategy (along with the trading

WINTER 2014 THE JOURNAL OF PORTFOLIO M ANAGEMENT 111

JPM-MORGAN.indd 111 1/17/14 1:46:11 PM