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You need to model the underlyings, price the derivatives, and then measure risk.


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It doesn't make sense to use the (co)variance(s) of asset values; if you did, by cutting an investment's share of the allocation by half, you would also cut its variance by a factor of 4. In a meaningful portfolio design, the volatility (variance) of an asset, by itself, is the same no matter how much or how little of your portfolio you put in it. Why ...



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