Risk-Parity Funds

Risk-parity, also known as balanced-risk funds, is a new category of asset allocation funds. Advocates of risk-parity funds take the position that a typical asset allocation fund with a 60/40 (stock/bond) mix really has about 90% of its risk coming from the stock portion—meaning the overall risk level is higher than most investors would suspect. In a risk-parity fund, 50% of the portfolio is in bonds, 33% is in cash and the remaining 17% is split between stocks and alternative assets such as commodities. This lower risk composition means reduced volatility but also reduced returns. Risk-parity fund managers try to increase overall return by adding leverage with futures or other derivatives. Those who favor this approach believe that investors will experience more consistent returns than they would with a 60/40 mix.