Tail Risk

AAA

DEFINITION of 'Tail Risk'

A form of portfolio risk that arises when the possibility that an investment will move more than three standard deviations from the mean is greater than what is shown by a normal distribution.

INVESTOPEDIA EXPLAINS 'Tail Risk'

When a portfolio of investments is put together, it is assumed that the distribution of returns will follow a normal pattern. Under this assumption, the probability that returns will move between the mean and three standard deviations, either positive or negative, is 99.97%. This means that the probability of returns moving more than three standard deviations beyond the mean is 0.03%, or virtually nil. However, the concept of tail risk suggests that the distribution is not normal, but skewed, and has fatter tails. The fatter tails increase the probability that an investment will move beyond three standard deviations.

Distributions that are characterized by fat tails are often seen when looking at hedge fund returns.

RELATED TERMS
  1. Leptokurtic

    A statistical distribution where the points along the X-axis ...
  2. Platykurtic

    A type of statistical distribution where the points along the ...
  3. Long Tail

    In business, long tail is a phrase coined by Chris Anderson, ...
  4. Covariance

    A measure of the degree to which returns on two risky assets ...
  5. Hedge Fund

    An aggressively managed portfolio of investments that uses advanced ...
  6. Risk

    The chance that an investment's actual return will be different ...
Related Articles
  1. Determining Risk And The Risk Pyramid
    Investing Basics

    Determining Risk And The Risk Pyramid

  2. Understanding Volatility Measurements ...
    Mutual Funds & ETFs

    Understanding Volatility Measurements ...

  3. The Capital Asset Pricing Model: An ...
    Fundamental Analysis

    The Capital Asset Pricing Model: An ...

  4. What is the average salary for an accountant?
    Personal Finance

    What is the average salary for an accountant?

Hot Definitions
  1. Financing Entity

    The party in a financing arrangement that provides money, property, or another asset to an intermediate entity or financed ...
  2. Hyperinflation

    Extremely rapid or out of control inflation. There is no precise numerical definition to hyperinflation. Hyperinflation is ...
  3. Gross Rate Of Return

    The total rate of return on an investment before the deduction of any fees or expenses. The gross rate of return is quoted ...
  4. Debit Spread

    Two options with different market prices that an investor trades on the same underlying security. The higher priced option ...
  5. Leading Indicator

    A measurable economic factor that changes before the economy starts to follow a particular pattern or trend. Leading indicators ...
  6. Wage-Price Spiral

    A macroeconomic theory to explain the cause-and-effect relationship between rising wages and rising prices, or inflation. ...
Trading Center