Pensions & Investments: Scapegoats, straw men and risk parity

April 20, 2018

Written by our Investment Management Unit's Jim Smigiel, this article focuses on risk parity and its capital market impact.

"We need to tear down the all-risk-parity-funds-behave-the-same straw man and exonerate this strategy as a culprit in the recent market pullback."

Jim Smigiel, Chief Investment Officer of Absolute Return Strategies, examines risk parity’s role in the February 2018 market turmoil and provides a refutation of its narrative as an undifferentiated influence on the capital markets. 

Smigiel addresses a perception that risk parity is implemented in a standard, uniform fashion. "We need to tear down the all-risk-parity-funds-behave-the-same straw man and exonerate this strategy as a culprit in the recent market pullback," he writes.

Knowledge Center Investment Fundamentals: Risk Parity While there are numerous risks involved with investing, risk parity is a strategy that balances the sources of risk in your portfolio

Smigiel explores volatility, asset categories and exposures, index performance, and risk  -- factors that collectively determine risk parity’s effect on the market.

Read the article: Scapegoats, straw men and risk parity 

Glossary of terms referenced within:

Chicago Board Options Exchange Volatility Index (VIX): The VIX, or Chicago Board Options Exchange Volatility Index, uses option prices on the S&P 500 to estimate the implied volatility of the S&P 500 Index over the next 30 days. Options are derivative contracts that give a buyer the right (and impose upon the seller an obligation, if called upon by the buyer) to buy or sell an underlying security at a specified price, usually for a specified period of time. A higher number indicates greater volatility and an increase in the VIX is often associated with higher risk aversion among investors. Common usage: The Chicago Board Options Exchange Volatility Index (VIX), a barometer of market volatility.

Commodity trading advisors: A commodity trading advisor (not capitalized by WSJ) is an individual or organization that provides advice or services related to futures contract trading.

Inflation breakevens: The breakeven rate refers to the yield difference between a fixed-rate bond and an inflation-linked bond or similar maturity and credit quality. If inflation exceeds the breakeven rate, the inflation-linked bond will outperform. The reverse is also true.

The MSCI World Index, which is part of The Modern Index Strategy, is a broad global equity index that represents large and mid-cap equity performance across 23 developed markets countries. It covers approximately 85% of the free float-adjusted market capitalization in each country and MSCI World Index does not offer exposure to emerging markets.

The MSCI World Risk Weighted Index is based on the MSCI World Index, its parent index, which includes large and mid cap stocks across Developed Markets countries. Constructed using a simple, but effective and transparent process, the MSCI World Risk Weighted Index reweights each security of the parent index so that stocks with lower risk are given higher index weights.

S&P 500: The S&P 500 Index is a market-capitalization weighted index that consists of 500 publicly traded large U.S. companies that are considered representative of the broad U.S. stock market.

VIX-linked Exchange-Traded Products: Exchange traded products that are linked to the Chicago Board Options Exchange Volatility Index.