Risk Assessment Techniques for Split Capital Investment Trusts

Abstract

The split capital investment trust crisis has brought into focus the need for more reliable risk assessment techniques for shares in the sector. We discuss the strengths and weaknesses of traditional pricing and risk description measures for split capital investment trusts (eg gross redemption yield, cover, hurdle rates) and ways of making these more useful. We then examine alternative pricing and risk assessment techniques (eg option pricing, sensitivity measures). In particular, some of the problems with the application of traditional option pricing techniques are discussed and methods for dealing with them suggested. We propose the use of stochastic modelling for both pricing shares and understanding their risks.