Risk-Based Asset Allocation in Factor Investing: Exploring the Inverse Factor Volatility Strategy

Claudia Perez

doi:10.19044/esj.2024.v20n19p1

Claudia Perez Shanghai University, China

DOI: https://doi.org/10.19044/esj.2024.v20n19p1

Keywords: Quantitative Finance, Asset Allocation, Investment Performance, Risk Management, Portfolio Optimization

Abstract

This study evaluates the effectiveness of the Inverse Factor Volatility strategy within the context of factor investing, comparing its performance to the conventional Risk Parity strategy. Using quantitative techniques, including portfolio construction and performance metrics analysis, this research employs data from five individual equities spanning the years 2000 to 2022. The methodology involves constructing portfolios based on Inverse Factor Volatility and Risk Parity principles and analyzing performance metrics, including mean returns, risk-adjusted returns, and drawdowns. The findings indicate that, compared to Risk Parity, Inverse Factor Volatility offers superior drawdowns, risk-adjusted returns, and mean returns. These results suggest that Inverse Factor Volatility may be a more effective strategy for portfolio management and could represent an advancement over traditional factor investing methods. The conclusions of this study hold significant implications for portfolio managers seeking to optimize their investment strategies.

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