Document Type

Student Research Paper

Date

Spring 2021

Academic Department

Business

Faculty Advisor(s)

Dr. Dmitriy Krichevskiy

Abstract

Risk parity offers a sophisticated portfolio management technique that proponents claim delivers higher risk-adjusted returns compared to traditional portfolio strategies. The goal of this thesis is to determine if risk parity outperforms the traditional 60/40 portfolio strategy on a risk-adjusted basis. If risk parity outperforms the traditional 60/40 strategy on a risk-adjusted basis, investors should reconsider their portfolio strategy and benefit from the higher risk-adjusted performance of risk parity. The economic implications of this paradigm shift could be material. If a superior portfolio strategy is adopted, investors, both institutional and retail, benefit from achieving their diverse investment objectives quicker with less risk. Using price return data, risk parity failed to outperform the traditional 60/40 strategy on an annualized quarterly risk-adjusted return basis over the period 1999-2021. These findings fail to reject the notion the traditional strategy is inferior to risk parity, therefore the traditional strategy may be a simple heuristic for investors to easily achieve optimal risk-adjusted returns. In addition, lower correlations of U.S. nominal bonds and real estate and commodities and emerging market USD nominal bonds, respectively, appear to be associated with better risk parity performance. Risk parity strategies are widely thought to be more sensitive to correlations between asset classes since they are typically invested in a more diverse set of asset classes.

Notes

Honors Senior Thesis; Honors in the Discipline; BA 400 Senior Project in Business

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