Contribution to portfolio tracking error volatility with geometric illustration

Jubao Zhang and Juan Ma

Applied Economics Letters, 2024, vol. 31, issue 20, 2176-2181

Abstract: In this study, we formulate Tracking Error Volatility (TEV) of a portfolio with matrices based on pre-defined risk factors and betting sizes and then we derive contributions to TEV from each factor and each security using the corresponding second derivatives as marginal contributions. This breakdown helps portfolio managers identify where TEV mostly comes from. Geometric illustrations are used to visualize and prove that contributions to TEV are orthogonal projections of each standalone TEV onto portfolio total TEV.

Date: 2024
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DOI: 10.1080/13504851.2023.2212947

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