Abstract
Risk budgeting has become a buzzword. While there may be no generally accepted definition or approaches for implementation, the underlying concept of risk budgeting remains sound and relevant. Defining risk as “uncertainty of alpha,” the authors argue that successful implementation of risk budgeting requires assessment of the quality of one's information under uncertainty (which the authors define as information risks), as well as other statistical risk measurement. Using a global asset allocation portfolio as an example, the authors introduce a simple optimal risk budgeting tool. With information risks, investment views, and total risk budget as inputs, the framework presented provides the optimal combination of information advantage so that the allocation of risks across strategies and assets is consistent with a manager's assessment of information risks and investment views.
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