Risk and Performance Analysis · Collective Funds

A stress test asks what could happen under a defined scenario. It is a planning exercise, not a prediction or a complete measure of every possible loss.

Define the scenario before calculating

State the shock to each exposure and the period under consideration. A rate increase, an equity selloff and a credit deterioration are different events. Combining them can reveal vulnerabilities that a single market assumption misses.

Use transparent assumptions and identify omissions. A simple model may ignore derivatives, trading changes and correlations. That is acceptable for a first exercise if its limits are explicit.

Calculate a portfolio effect

Consider a hypothetical allocation of 60% equities and 40% bonds. If equities fall 25% and bonds fall 8%, the weighted loss is 18.2%: 15% from equities plus 3.2% from bonds. A $100,000 account would become $81,800 before other effects.

Now add a $10,000 withdrawal need. The portfolio must fund that payment after the decline, leaving $71,800 if the full withdrawal occurs without additional costs. The cash requirement changes the practical consequence of the market loss.

Include operational constraints

Ask whether withdrawals are permitted on the required date, how settlement works and whether underlying assets can be sold without unusually high costs. A quoted balance and usable cash are not always the same.

Test several plausible scenarios rather than relying on one dramatic case. Record which assumptions cause the investment plan to fail, then consider allocation, cash reserves or different terms. Do not treat a favorable model output as proof of safety.

Try it yourself

A portfolio is 70% equities and 30% cash. Equities fall 20% and cash is unchanged. What is the simplified portfolio loss?

Show the worked answer

14%, before costs, taxes or changes in allocation.

Further reading

Educational material, not a recommendation to buy or sell a fund. Numerical examples are hypothetical. This guide focuses on U.S. collective investment funds and retirement CITs. Terms, eligibility and tax treatment vary by fund, account and jurisdiction.

Continue learning