A cadre of asset owners are suffering from a crisis of confidence in their risk-parity investments.
Some institutional investors are questioning the efficacy of their risk-parity investments — which are designed to provide a high degree of diversification with systematically managed equity, fixed income, commodities, credit and other investments — because they have not met return expectations in the short term.
Investment consultants including Boston-based NEPC LLC and Wilshire Consulting, Santa Monica, Calif., said they are fielding questions and working with clients to review their commitments to risk-parity strategies.
NEPC, for example, will spend the next 18 months collaborating with clients to re-evaluate their risk-parity investments, said Rhett Humphreys, an Atlanta-based partner.
One reason asset owners are scrutinizing their risk-parity strategies is the sheer difficulty of determining whether the investments are meeting expectations. Performance evaluation isn't straightforward for investors, Mr. Humphreys said, because there currently is no single standard or appropriate benchmark to compare risk-parity strategies.
Investors also may be outgrowing the need for risk-parity strategies, he said, noting that when the strategies first gained attention about a dozen years ago, most portfolios were largely composed of plain-vanilla stocks and bonds.
Risk-parity approaches offered broad portfolio diversification into new asset classes within a single strategy, but now pension funds routinely invest using a much broader asset allocation that includes many of the same asset classes used in risk-parity strategies, Mr. Humphreys said.
"Risk parity now is at the margins for many investors because portfolios now are so much more diverse. At this point, risk parity can slightly decrease risk over 10 years" but doesn't play the same broad diversification role it once did, Mr. Humphreys said.