Maximum Diversification Strategies Along Commodity Risk Factors
European Financial Management, Vol. 24, Issue 1, pp. 53-78, 2018
37 Pages Posted: 8 Jul 2013 Last revised: 12 Mar 2018
Date Written: December 23, 2016
Pursuing risk-based allocation across a universe of commodity assets, we find diversified risk parity (DRP) strategies to provide convincing results. DRP strives for maximum diversification along uncorrelated risk sources. A straightforward way to derive uncorrelated risk sources relies on principal components analysis (PCA). While the ensuing statistical factors can be associated with commodity sector bets, the corresponding DRP strategy entails excessive turnover because of the instability of the PCA factors. We suggest an alternative design of the DRP strategy relative to common commodity risk factors that implicitly allows for a uniform exposure to commodity risk premia.
Keywords: commodity strategies, risk-based portfolio construction, risk parity, diversification
JEL Classification: G11, D81
Suggested Citation: Suggested Citation