Shortfall Risk

[Kerry1]

In one of the CFAI end of chapter questions it asks whether short fall risk is a appropriate measure of risk for a portfolio of bonds with embedded call options (ie: non normal return distribution).
The solution says that the shortfall fall risk measure doen’t require that the return distribution be normal???
Read through the text and the notes, and neither mention anything about shortfall risk being estimated using Monte Carlo.
Standard deviation is used in the denominator for the shotfall risk equation given in the text.
Any idea what I’m missing here??

 

[gauravku]

I think you have confused the formula for sortino ratio with the formula for shortfall risk, because shortfall risk itself is a substitute for standard deviation and it measures the risk of the return going below a benchmark (or level). Sortino ratio is the ratio of mean of returns above the lower limit and shortfall risk.
The explanation given in the text I believe, is correct.

 

[Kerry1]

Thanks, you are right.
Was getting it mixed up with Sortino / Sharp ratio. Shortfall risk is the deviation of returns below a minimum acceptable level of return.
But…… to be able to place a % chance of not meeting your minimum objective, the distribution would have to be normal, right??
I do remember reading somewhere in risk management / writing of a IPS, that it’s easier for investors to understand that there is a 10% chance of not meeting objectives & using Monte Carlo to calculating the %
Right / wrong, any input appreciated.

 

[purelife]

Couldn’t you calculate the short-fall risk (% of not meeting your goals) using a monte carlo simulation which doesn’t require normal distribution?