Risk-on/Risk-off: Measuring Shifts in Investor Sentiment

Abstract

This paper defines risk-on risk-off (RORO), an elusive terminology in pervasive use, as the variation in global investor risk taking behavior. Our high-frequency RORO index captures time-varying investor risk appetite across multiple dimensions: advanced economy credit risk, equity market volatility, funding conditions, and currency dynamics. The index exhibits risk-off skewness and pronounced fat tails, suggesting its amplifying potential for extreme, destabilizing events. Compared with the ubiquitous VIX measure, the RORO index reflects the multifaceted nature of risk, underscoring the diverse provenance of investor behavior. Practical applications of the RORO index highlight its valuable role in understanding international portfolio reallocation and return predictability.

Keywords: Risk-on Risk-off, Global Investor Risk Aversion, Extreme Events, Tail Risk, Portfolio Reallocation

JEL Classification: F36, F65, G11, G12, G15, G23