A volatility spike pushes a fund's value at risk from 1.6% to 2.4% against a 2% limit. Do you cut every position proportionally or cut the largest contributor?

Cut the private banks position, not everything. A proportional cut keeps 83.3% of every position and sells about Rs 159 crore. Banks alone contribute 1.42 of the 2.40 points of value at risk, 59% of the risk from 35% of the gross exposure. Trimming banks from 27.6% to 19.7% of NAV restores the limit while selling only Rs 95 crore, and it leaves the hedges that were lowering risk intact.

Value at risk is built from position sizes and volatility. If every volatility rises by half and correlations hold, value at risk rises by exactly half, from 1.6% to 2.4%, with no trade at all. It is like a speed limit on a wet road: you did not press the accelerator, but the safe speed fell under you. The breach is still a breach; the committee will ask what you are doing about it, not whose fault the rain was.

Scaling every position by the same factor scales value at risk by that factor. Keeping 83.3% of everything brings value at risk to exactly 2.0%, but sells 16.7% of a gross book of 79% of NAV, about Rs 159 crore. That includes cutting the staples short and the bond futures, which were contributing little risk, and pays about Rs 24 lakh in costs. It is simple and defensible, and it treats every rupee of exposure as equally risky, which it is not.

Contribution to value at risk is not the same as size. A position's contribution is its size times how much it moves with the whole book. Banks are large, volatile and correlated with IT, so they carry 59% of the risk; the staples short and bond futures move against or apart from the rest and add almost nothing. Cutting banks from 27.6% to 19.7% of NAV sells Rs 95 crore, 60% of the proportional route, and keeps the positions that diversify the book.

When the targeted cut would gut your best idea. The cheapest risk reduction is not always the right portfolio: if banks are the highest-conviction position, cutting them alone changes what the fund is betting on. Tell the committee three things: the breach came from volatility, not new trades; you are cutting banks to 19.7% because they carry most of the risk; and you will review whether a 2% limit set in calm markets still fits, rather than asking for a waiver today. Say the limit of the tool too: value at risk from recent volatility will fall again when markets calm, and the fund should not re-lever the moment it does.