Risk Parity Portfolios with Risk Factors

Roncalli, Thierry; Weisang, Guillaume

doi:10.2139/ssrn.2155159

Cited by 33 publications

(28 citation statements)

References 17 publications

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“…Activity: EU GDP growth, industrial production growth and the economic sentiment index as published by the European Commission. The first four categories are also considered in the risk factor analysis of Roncalli and Weisang (2012). The data frequency used is quarterly.…”

Section: Applications In Risk Monitoring and Portfolio Allocationsmentioning

confidence: 99%

“…This parametric set-up corresponds to the related work of Roncalli and Weisang (2012) on risk parity portfolios with risk factors. In order to calculate the factor risk contributions, we then rewrite the portfolio return as an exact linear combination of factors.…”

Section: Introductionmentioning

confidence: 99%

“…The common risk factors can of course be correlated, while the idiosyncratic risk factors are assumed to be uncorrelated. Roncalli and Weisang (2012) follow Meucci (2007) in calculating the factor risk contributions in one step. In our view, this comes at the price of tractability.…”

Section: Introductionmentioning

confidence: 99%

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Asset allocation with risk factors

Boudt

Peeters²

2013

Quantitative Finance Letters

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In this paper, we propose to build portfolios that offer diversification over so-called 'risk factors' and this within a minimum variance portfolio construction framework. We believe this approach is an important advancement compared with traditional asset allocation as it achieves a higher level of true risk diversification, taking into account the common and unique risk factors that each asset class is exposed to. We apply the methodology to a portfolio invested in European government bonds, corporate bonds, high-yield bonds and equity. The first application consists of an ex post factor risk contribution analysis where we decompose the portfolio risk into the risk associated with the economic activity, inflation, interest rate, exchange rate, credit risk, market risk and idiosyncratic asset class-specific risk factors. In the second application, we construct minimum variance portfolios that satisfy ex ante constraints on the factor risk contributions.

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Section: Applications In Risk Monitoring and Portfolio Allocationsmentioning

confidence: 99%

Section: Introductionmentioning

confidence: 99%

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Asset allocation with risk factors

Boudt

Peeters²

2013

Quantitative Finance Letters

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“…In this way, we highlight that multilevel models allow for a more detailed evaluation of the risk drivers, and show that grouping countries according to a given economic criteria has a crucial role. To the best of our knowledge, we are the first to take this analysis from a risk contribution perspective, using the tools introduced by Roncalli and Weisang (2016).…”

Section: Introductionmentioning

confidence: 99%

A multilevel factor approach for the analysis of CDS commonality and risk contribution

Rodríguez-Caballero

Caporin

2019

Journal of International Financial Markets, Institutions and Mo

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We introduce a novel multilevel factor model that allows for the presence of global and pervasive factors, local factors and semi-pervasive factors, and that captures common features across subsets of the variables of interest. We develop a model estimation procedure and provide a simulation experiment addressing the consistency of our proposal. We complete the analyses by showing how our multilevel model might explain on the commonality across CDS premiums at the global level. In this respect, we cluster countries by either the Debt/GDP ratio or by sovereign ratings. We show that multilevel models are easier to interpret compared with factor models based on principal component analysis. Finally, we experiment how the multilevel model might allow the recovery of the risk contribution due to the latent factors within a basket of country CDS.

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“…The third group of research papers focuses on capital allocation and portfolio construction made up of ARP. One can cite for instance the article of Roncalli and Weisang [2016] that discusses factor investing and risk parity. One can think about the article of Bruder et al [2016] who introduce skewness risk to risk parity solution, or that of Brandt and Santa-Clara [2009] who compute portfolio weights using the assets' characteristics.…”

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confidence: 99%

Alternative Risk Premia: Is the Selection Process Important?

Naya¹,

Tuchschmid²

2019

JWM

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Alternative Risk Premia (ARP) are rule-based strategies. They should reward investors exposed to non-traditional systematic risk factors. Yet, allocation to ARP is not straightforward. First, there are many ARP indices proposed by different providers that claim to capture the same underlying risk premia. Second, a proposed index may not automatically mimic an existing risk premium whose performance is sustainable or persistent. Our findings confirm these suspicions.If some categories of indices show risk-return characteristics that are rather homogeneous, others are highly heterogeneous. Stated otherwise, performance is provider dependent making the choice of an index an important component of the allocation process. Differences between simulated past results and live data are then calculated. Results are indisputable. There is a significant overfitting bias. Once launched, the performance of ARP indices dropped significantly. To summarize, this research paper shows that investors should take no short cuts.When it comes to allocating capital to ARP, an extensive due diligence process is required.Electronic copy available at: https://ssrn.com/abstract=3045057 3 Alternative Risk Premia (ARP) are better understood when compared to traditional long-only risk factors. Everyone investing in financial securities as equities or bonds is indeed aware that capital is at risk and that it is this same risk that calls for the existence of "risk premia". The idea behind ARP is the same. Investors must be rewarded for the risk they take. The difference comes from the way the exposure is achieved. ARP are non-traditional risk factors and roughly speaking correspond to any long-short strategies or styles whose risk is a priori not diversifiable. Examples could be FX carry, Interest Rate (IR) carry or equity size.ARP have experienced an increase in popularity recently, among both researchers and investors.Size-wise, the ARP market still looks small compared to the hedge fund industry whose assets under management (AuM) estimates are close to $3 trillion, but new indices are continuously created and AuM are increasing. 1 According to CitiGroup, the ARP market accounted for a tiny $15 billion in 2011. By the end of 2015 it had risen to $241 billion. 2 Yet, there is nothing new in the idea that returns of risk assets can be expressed with a set of limited factors, whatever the name we want to give them. Single-factor or multi-factor return generating processes can be found in articles published as early as the sixties and seventies. One can cite, for example, the paper of Sharpe [1964] and the use of a diagonal model or the seminal article of Ross [1976] and the contribution of his Arbitrage Pricing Theory to modern finance. However, when it comes to multi-factor pricing models, one often points to the article of Fama and French [1993] in which size and book-to-market were added to a "market" factor to explain returns on equities. Since then, other factors have been proposed. The work of Jegadeesh and Titman [1993] led Cahart [19...

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Risk Parity Portfolios with Risk Factors

Cited by 33 publications

References 17 publications

Asset allocation with risk factors

Asset allocation with risk factors

A multilevel factor approach for the analysis of CDS commonality and risk contribution

Alternative Risk Premia: Is the Selection Process Important?

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