Risk Parity for Dummies

By Wesley Gray, PhD|May 3rd, 2012|Research Insights, Tactical Asset Allocation Research|

Risk parity asset allocation systems seem to be all the rage these days.

If you are unfamiliar with the strategy, Mebane Faber has some great videos outlining how risk parity works.

Here is a source paper with the details on all the returns and information on a risk parity strategy:
Leverage Aversion and Risk Parity” by Asness, Frazinni, and Pederson (2012).

We have a nice research summary and a spreadsheet entitled “Risk Parity for Dummies”, which outlines the mechanics of risk parity and levered risk parity.

Here is quick outline of the most basic risk parity strategy (click to expand):

Here is the excel spreadsheet that shows you how to actually create a risk parity portfolio (click to expand):
Risk Parity for Dummies

Click to enlarge the figure

About the Author: Wesley Gray, PhD

After serving as a Captain in the United States Marine Corps, Dr. Gray earned an MBA and a PhD in finance from the University of Chicago where he studied under Nobel Prize Winner Eugene Fama. Next, Wes took an academic job in his wife’s hometown of Philadelphia and worked as a finance professor at Drexel University. Dr. Gray’s interest in bridging the research gap between academia and industry led him to found Alpha Architect, an asset management firm dedicated to an impact mission of empowering investors through education. He is a contributor to multiple industry publications and regularly speaks to professional investor groups across the country. Wes has published multiple academic papers and four books, including Embedded (Naval Institute Press, 2009), Quantitative Value (Wiley, 2012), DIY Financial Advisor (Wiley, 2015), and Quantitative Momentum (Wiley, 2016). Dr. Gray currently resides in Palmas Del Mar Puerto Rico with his wife and three children. He recently finished the Leadville 100 ultramarathon race and promises to make better life decisions in the future.