PT  - JOURNAL ARTICLE
AU  - Hakan Kaya
AU  - Wai Lee
AU  - Yi Wan
TI  - Risk Budgeting with Asset Class and Risk Class Approaches
AID  - 10.3905/joi.2012.21.1.109
DP  - 2012 Feb 29
TA  - The Journal of Investing
PG  - 109--115
VI  - 21
IP  - 1
4099  - https://pm-research.com/content/21/1/109.short
4100  - https://pm-research.com/content/21/1/109.full
AB  - One of the natural responses to the most recent financial crisis is to point out the failure of modern portfolio theory and mean-variance optimization to provide diversification when it was most needed. Some critics, including pensions, foundations, and endowments, have proposed displacing “asset classes” with “risk classes” for the purpose of asset allocation. With this new risk class approach, investors determine an optimal mix of assets by achieving target exposures to different risks. From a conceptual standpoint, the risk class approach is superior to an asset class approach, as it recognizes that investable and tradable assets in a portfolio are merely vehicles for investors to gain exposures to a set of risks that are believed to be rewarded. However, practical application of the risk class approach presents its own set of challenges. If we consider that when the risk class approach is fully executed so that all risks are specified and idiosyncratic elements are almost negligible and uncorrelated, the approach converges with the asset class approach.TOPICS: VAR and use of alternative risk measures of trading risk, portfolio theory, portfolio construction