Risk Budgeting and Portable Alpha

Abstract

In the past decade, the institutional investing community has pursued two major advances in the management of risk. First, many institutional investors have come to realize that there need not be a direct link between their asset allocation decisions and their sources of “alpha” or risk-adjusted value-added above benchmark. This is known as “portable alpha” earning alpha in one market and “porting” it into another. Second, risk budgeting is seen as an important tool for the measurement, apportioning, and managing of risk. The two concepts are interrelated: although one can pursue either idea individually, they are best pursued in parallel.