It is challenging to understand how to model external shocks when trading financial markets. However, in recent years, it has become particularly notable that these risks, such as Brexit, the election of Trump, or coronavirus can greatly impact markets. Hence, we need to have a way to model them. In this paper we investigate the Thorfinn Sensitivity Index (TSI) which quantifies event risks related to geopolitics and related areas. We find that, historically when the index flags increases in risk this tends to be accompanied by an underperformance of risky assets and outperformance of safe haven assets. We use the TSI index to create systematic trading strategies for macro-based assets. Our macro trading basket strategy which uses signals based on TSI has annualized returns of 14.8% and risk adjusted returns of 1.32 over the past 2 years, outperforming a passive strategy.
To download the full Cuemacro/Thorfinn paper, please click here!