Diversified Risk Parity Strategies for Equity Portfolio Selection

01.10.2012

Empirical Capital Market Research, Risk & Optimization

Journal of Investing, 21, 111-128 (2012)

Authors

Dr. Ulrich Neugebauer Carsten Zimmer

Abstract

This article investigates a new method of equity portfolio selection that provides maximum diversification along the uncorrelated risk sources inherent in the S&P 500.This diversified risk parity strategy is distinct from prevailing risk-based portfolio construction paradigms. In particular, the strategy is characterized by a concentrated allocation that actively adjusts to changes in the underlying risk structure. In addition, x-raying the risk and such diversification characteristics of traditional risk-based strategies as 1/N, minimum-variance, risk parity, or the most-diversified portfolio, the authors find the diversified risk parity strategy to be superior. Although most of these alternatives crucially pick up risk-based pricing anomalies like the low-volatility anomaly, the diversified risk parity strategy more effectively exploits systematic factor tilts.

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