Alex Shahidi

Risk Parity


Скачать книгу

      Four Diverse Asset Classes

      There are numerous asset classes to pick from. The key question is how we can take advantage of diversification across various asset classes to reduce risk. Our goal isn't to select or weight them based on return or risk but based on how they diversify each other (i.e., what drives their performance). The core observation is that asset classes have two key drivers in common – growth and inflation – and what distinguishes them from each other is how they respond to those drivers.

      Based on this logical sequence and our desire to build a well‐diversified portfolio, the next natural step is to select a group of assets that perform differently from each other because they respond differently to changes in growth and inflation. By temporarily ignoring the returns and risks of various asset classes (in contrast to the way most people think about building a portfolio), the steps should seem reasonable and, in many ways, very obvious.

      There are four general economic environments that should be considered: rising growth, falling growth, rising inflation, and falling inflation. There are four asset classes that cover these economic outcomes:

      1 Global equities – rising growth, falling inflation

      2 Commodities – rising inflationIndustrial commodities – rising growthGold – falling growth

      3 Treasuries – falling growth, falling inflation

      4 TIPS – falling growth, rising inflation

      The first step was to select a diverse set of asset classes that are biased to perform differently in varying economic environments. This creates the potential to reduce risk, since the positive performance of assets that do well in a given environment can offset the negative performance of assets that do poorly. Thus far, we have not discussed returns, because we separated out risk reduction from return maximization at the outset. By isolating the key drivers of asset‐class returns, we can follow a relatively straightforward logical sequence to arrive at the asset classes selected for our portfolio.

      We can now turn to the second step that will enable us to design the selected asset classes to deliver an expected return competitive with stocks over the long run. One problem that investors face is that some of the diversifying assets are low returning. This apparent obstacle commonly turns investors away from investing in many of the most diverse asset classes. However, this is a problem that can be easily solved.

      This is where the “parity” component of risk parity is relevant. Parity refers to the state of being equal. Within the context of building portfolios using a risk parity framework, we take the major step of increasing the risk in each asset class so that it has a roughly equal long‐term expected return as equities. Since most asset classes have a comparable return‐to‐risk ratio, this step basically involves equalizing the risk of various asset classes to raise the expected return to the level of stocks. Using long‐term volatility as a measure of asset‐class risk, we can now consider a wide range of investment options to create a diversified portfolio. Equalizing the risk to synthetically create long‐term equity‐like expected returns across multiple and diverse asset classes brings us closer to the smoother path described at the beginning of this book. By limiting our universe of investment options to those that are not correlated yet high returning, we eliminate the need to have to choose between low‐ and high‐returning assets like those in a 60/40 framework.

      Years ago, I had a conversation with a highly successful investor. He had earned a PhD in Economics from the Booth School of Business at the University of Chicago, one of the most prestigious and well‐respected business schools in the world. He was well trained in portfolio management and had over 30 years of experience with investing. He would easily qualify as a sophisticated investor by any measure. I asked him a simple question: if you were investing for 50 years and had to construct a portfolio that consists of stocks and bonds that you couldn't change, how would you allocate between the two? His quick and confident response of 100% stocks because everyone knows that stocks beat bonds over the long run was not a surprise. If I posed the same query to 100 people with his background and expertise, I would likely receive the same answer the majority of the time, if not every time.

      We can do the same thing for other asset classes. That is, we can structure multiple asset classes to have equity‐like returns by adjusting their risk to match equities. Hence,