Research On Risk Parity Based On Risk Factor

As an increasingly important asset allocation management method,risk parity focuses on the rational allocation of risks of portfolio.The core idea is to equal weight risk contribution,that is,each risk source contributes equally to the total risk of the portfolio,and ultimately achieves the goal of portfolio diversification.Through the adjustment of financial leverage,all kinds of assets of portfolio can be adjusted to the same risk level.At this time,the risk parity can obtain a higher Sharp ratio.Compared with other traditional portfolios,risk parity can better resist the downside risk of market.The construction method of risk parity is similar to the minimum variance portfolio,but equal weight risk contribution should be added to the constraints.In practice,risk parity can also be a broad term,indicating the various investment systems and technologies based on its principles.Different fund managers,according to their investment styles and management objectives,will produce different application methods of risk parity,and the results will be quite different.Traditional risk parity balances portfolio risk by allocating funds rationally on various assets,but different kinds of assets often have very different sources of risk,so this approach ignores the essential factors of asset risk.The Multi-Factor Pricing model considers that we can decompose the risk of portfolio into the sum of all the risk factors it exposes.The traditional method of risk parity does not really achieve risk diversification.If risk factor analysis process is added to risk parity,various risks can be managed and allocated from the source,which can improve the performance of risk parity in practical application and bring stable benefits.The measurement and management of portfolio diversification is the focus of our paper.We explore how to achieve risk parity with risk factors.In the measurement of portfolio diversification,the effective number of bets proposed by Meucci is used as the measurement index.The larger the effective number of bets,the higher the degree of portfolio diversification,the better the ability of risk control;In the management of portfolio diversification,our paper aims at maximizing the effective number of bets.We find that risk parity with risk factors is not unique.We have explored two special risk parity,one with the smallest variance,the other with the highest sharp ratio.The empirical results show that,compared with other popular portfolios,risk parity with risk factors can achieve a diversification portfolio that outperformance out-of-sample.