Risk Parity

Each video demonstrates a simple illustrative example of an Alternative Strategy. Watch to learn more.

Transcript

Let’s look at 3 simple two-asset portfolio examples. The asset classes’ expected returns and volatility do not change in each of these examples; the only change is the asset class weights. The first portfolio is a 50-50 stock-bond portfolio, with an expected return of 5.0% and a volatility of 10.3%. The second portfolio uses capital space to equilibrate the volatility from both asset classes, by reducing the equity weight and increasing fixed income. Volatility drops, but so does expected return (to 3.2%). The third portfolio is the risk parity portfolio that finds the exact weights for bonds and stocks, using leverage on the less volatile asset (bonds), to achieve the same risk as the starting portfolio. The risk parity portfolio delivers a higher return: 5.8% versus 5.0% for the starting portfolio.