Risk Parity with Trend Following

LongTail Alpha

Research

17 Pages

Risk-parity strategies excelled from the early 1990s through 2020, benefiting from a negative correlation between stocks and bonds, positive returns from both asset classes, and an environment of falling interest rates. What if you replace or augment the bond allocation with trend-following?

Key Takeaways

Trend aids diversification: Adding trend-following to stocks and bonds improved Sharpe and Sortino ratios, while reducing skew and fat tails
Carry optimization helps returns: A carry-filtered trend program boosted performance over a vanilla trend approach, especially during rate shifts
Three-asset model is strongest: A portfolio of stocks, bonds, and carry-optimized trend-following produced the best risk-adjusted results across regimes
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