The Risk Parity Principle Applied on a Corporate Bond Index Using Duration Times Spread

31 Pages Posted: 10 Sep 2016

See all articles by Lauren Stagnol

Lauren Stagnol

Université Paris Ouest - Nanterre, La Défense - EconomiX; Amundi Asset Management

Date Written: September 9, 2016

Abstract

In this paper, we apply the principle of Equal Risk Contribution (ERC) to a corporate bond index, an asset class so far left behind in this literature. Specifically, we rely on the Duration Times Spread (DTS) and demonstrate that it is a coherent metric for bond risk. We construct indexes based on sector - issuer - and bond level using structured block correlation matrices, weights being inversely proportional to DTS. Our results provide evidence that applying ERC using DTS in the index design significantly improves corporate bond index risk-adjusted returns. It appears that the higher the granularity is, the higher will be the risk-adjusted performance enhancements. More generally, the ERC application we present seems to be a valuable trade-off between heuristic and more complex risk-modeling based weighting schemes.

Keywords: Equal Risk Contribution, Risk Parity, Smart Beta, Risk Measure, Risk-Based Indexing

JEL Classification: G10, G11, C60

Suggested Citation

Stagnol, Lauren, The Risk Parity Principle Applied on a Corporate Bond Index Using Duration Times Spread (September 9, 2016). Available at SSRN: https://ssrn.com/abstract=2836880 or http://dx.doi.org/10.2139/ssrn.2836880

Lauren Stagnol (Contact Author)

Université Paris Ouest - Nanterre, La Défense - EconomiX ( email )

200 Avenue de la République
Nanterre cedex, Nanterre Cedex 92000
France

Amundi Asset Management ( email )

90 Boulevard Pasteur
Paris, 75015
France

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