Risk and Portfolio Construction

The best papers on risk and portfolio construction

Portfolio Diversification and Portfolio Risk - they're not the same thing!

How does your organisation measure risk? Do you measure portfolio diversification separately from portfolio risk? Or do you bundle it all into a single measure? The last few months have thrown up some great research to challenge your approach to managing and measuring portfolio risk. Some of these papers should be required reading for portfolio managers.

Cullen Roche argues that most asset managers follow misguided theories which lead to "unrealistic" frameworks. Salient urge portfolio managers to reconsider the use of higher volatility diversifiers. Research from State Street reminds fund managers of the very different implications, which arise from using a different time-frequency for risk measurement.


The Free Lunch: Decoupling Diversification and Risk (Salient, Apr 2016)
This paper examines why assessing diversification and risk independently may help investors build more efficient portfolios. It argues that asset allocators should rethink the impact of low volatility diversifiers in higher risk portfolios.

Understanding Modern Portfolio Construction (Cullen Roche, 2016)
In this paper, Cullen Roche argues that the portfolio construction process followed by many asset managers is based on misguided theories which lead to "unrealistic" frameworks. He therefore presents an alternative framework.

A framework for institutional portfolio construction (Vanguard, 2016)
This Vanguard paper considers the best investment goals investors should use when building their portfolio.

EPD - A New Measurement of Diversification (Standard Life, 2016)
This paper proposes a new metric for measuring diversification - the "Effective Portfolio Dimensionality." It helps assess the number of independent risk dimensions in a portfolio, whilst maintaining consistency with standard risk models.

MYTH: Time Reduces Risk (Alexander Ineichen, 2015)
Alternative investments still suffer from stigmatization by many investors, despite the fact that they've proven their merit overtime by being included in balanced portfolios. In this paper, Alexander Ineichen seeks to clear the air on the myths still surrounding them.

The Divergence of High- and Low-Frequency estimation (State Street)
This paper helps asset allocators looking at long-term asset allocation goals. It argues that when constructing portfolios for long horizons, investors should include both high- and low-frequency returns bases in their risk estimates.

Risk Factors as Building Blocks for Diversification (Callan Associates)
In this Callan Associates paper, portfolio construction is explored with risk premia (risk factors) being the basic element. It also examines risk factor portfolios and the diversification of portfolio risk.

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