Diversified Reward-Risk Parity in Portfolio Construction

Choi Jaehyung (), Kim Hyangju () and Kim Young Shin ()
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Choi Jaehyung: 5808 Goldman Sachs & Co. , 200 West Street, New York, NY 10282, USA
Kim Hyangju: 5029 Citigroup, Inc. , New York, NY 11101, USA
Kim Young Shin: College of Business, 12301 Stony Brook University , Stony Brook, NY 11794, USA

Studies in Nonlinear Dynamics & Econometrics, 2025, vol. 29, issue 2, 213-233

Abstract: We introduce diversified risk parity embedded with various reward-risk measures and more generic allocation rules for portfolio construction. We empirically test the proposed reward-risk parity strategies and compare their performance with an equally-weighted risk portfolio in various asset universes. The reward-risk parity strategies we tested exhibit consistent outperformance evidenced by higher average returns, Sharpe ratios, and Calmar ratios. The alternative allocations also reflect less downside risks in Value-at-Risk, conditional Value-at-Risk, and maximum drawdown. In addition to the enhanced performance and reward-risk profile, transaction costs can be reduced by lowering turnover rates. The diversified reward-risk parity allocations gain superior performance in the Carhart four-factor analysis.

Keywords: portfolio optimization; asset allocation; risk parity; tempered stable distributions (search for similar items in EconPapers)
JEL-codes: C59 G11 G12 (search for similar items in EconPapers)
Date: 2025
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DOI: 10.1515/snde-2023-0012

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