Furthermore, if in the coming days or weeks, risk parity funds were to trade more than they have so far, perhaps because of persistently high volatility, their trading volumes would have little impact on stock market prices. We think it is very unlikely that more than a small fraction of that would be sold, even if very high volatility continues for a while. The combination of these three errors, all in the same direction, led to an exaggerated prediction of likely trading volume in a big downturn. Over time, the equity holdings of a trend-following strategy can vary a lot, potentially going from meaningfully long to meaningfully short, with positioning changes driven by changing risk estimates and changing market trends. Given reasonable estimates of total equity exposure in these strategies and with some good understanding of the signal speed and trading approach of participants in this market, our expectation is that these trades also will be small in the context of equity markets.

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Unfortunately, many actively managed funds fall in this category. The idea is to find a way for retail investors to replicate a risk parity strategy for their own portfolio. Moreover, the core concepts of risk parity are well understood. This makes it ripe for replication. Some observations: AQR invests in a wide range of assets across all geographies, including equities, sovereign bonds, inflation linked bonds, credit spreads, commodities, and currencies.

Leverage is harnessed through futures, swaps, and forwards — again no big surprise there. Exposure to credit spreads is through shorting credit default swap indexes. Equities rank 6 and commodities rank 23 only appear once in the top 25 holdings. Second, I ran a regression on the daily returns of AQR on the daily returns of the various ETFs, subject to the constraint of having a zero intercept and making the sum of the coefficients be close to one.

The interpretation is that I wanted the regression to empirically determine the weights of the various ETFs for an unleveraged portfolio and to try to make it match the returns of the leveraged portfolio.

Here are the ETFs that I selected along with the model output. Developed Equities VWO 0. And the weighted average expense ratio for this portfolio is only 0. The synthetic strategy also has no exposure to credit spreads. None of the broad market corporate credit ETFs I tried produced good results in the regression.

I think it might have something to do with the fact that AQR gets exposure to credit spreads by shorting credit default swaps — kind of hard to replicate that. The code underlying this post can be viewed at my Github repository.

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Prudent Investing in Turbulent Times

The change permits existing investors to temporarily redeem from one of these Funds and reinvest a substantially equal amount back into the same Fund prior to February Please see the Supplement for further details. Investors should carefully consider the investment objectives, risks, charges and expenses of the Funds before investing. To obtain a prospectus or summary prospectus containing this and other important information, please call or click here to view or download a prospectus online. Read the prospectus carefully before you invest. View definitions of benchmarks and other terms used here.


Understanding Risk Parity

Seeks total return. Total return consists of capital appreciation and income. Risk-Diversified Global Market Exposure The Fund invests across a wide variety of global markets, including: developed and emerging market equities, fixed income and commodities. Investment Approach The Fund uses a risk budgeting approach to combine a large number of liquid, global risk premia into a diversified portfolio, which aims to provide positive total returns. We seek assets that we believe are liquid and provide either a positive expected return or some portfolio diversification benefit over the long-term. The strategy seeks to offer investors exposure to a number of global equity, fixed income, and commodity markets.

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