Scientific Beta

This invited editorial comment published in the Winter 2014 issue of the Journal of Portfolio Management establishes that overall, risk allocation can be thought of both as a new investment paradigm that advocates a focus on allocating to uncorrelated, rewarded risk factors, as opposed to correlated asset classes, and as a portfolio construction technique that stipulates how we should optimally allocate to these risk factors.

Risk allocation has gained popularity among sophisticated investors, perhaps evidenced by the increasing number of papers, too numerous to cite, recently published on the subject in the practitioner’s literature, including The Journal of Portfolio Management. What the concept of risk allocation exactly means, however, deserves some clarification. Various interpretations exist for what is sometimes presented as a new investment paradigm and other times presented as a simple reinterpretation of standard portfolio construction techniques.