The Risk Parity Principle Applied to a Corporate Bond Index

Lauren Stagnol

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Abstract: In this paper, we apply the principle of risk parity to a corporate bond index, an asset class so far left behind in this literature. Specically, we rely on the Duration Times Spread (DTS) a coherent metric for bond credit risk. We construct indexes based on sector - issuer - and bond level using structured block correlation matrices, weights being inversely pro- portional to DTS. Our results provide evidence that applying an Equal Risk Contribution (ERC) principle using DTS in the index design signif- icantly improves corporate bond index risk-adjusted returns. It appears that the higher the granularity is, the higher will be the risk-adjusted per- formance 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.

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Date: 2017
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Published in Journal of fixed income, 2017, 27, pp.27 - 48

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Persistent link: https://EconPapers.repec.org/RePEc:hal:journl:hal-01550002

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