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EDHEC-Risk study seeks best approach for harvesting alternative risk premia

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EDHEC-Risk has published a new study entitled “Factor Investing and Risk Allocation: From Traditional to Alternative Risk Premia Harvesting”, drawn from the Lyxor Asset Management research chair on “Risk Allocation Solutions”. 

The study extends the analysis of factor investing beyond traditional factors and seeks to investigate what the best possible approach is for harvesting alternative long short-risk premia.
 
The authors write: “There is a growing interest amongst sophisticated institutional investors in factor investing. It is now well accepted that the average long-term performance of active mutual fund managers can, to a large extent, be replicated through a static exposure to traditional factors, which implies that traditional long-only risk premia can be most efficiently harvested in a passive manner.
 
“By looking beyond traditional factors, this research does indeed identify other strategies that serve to harvest alternative risk premia. While the replication of hedge fund factor exposure appears to be a very attractive concept, the authors find that hedge fund replication strategies achieve in general a relatively low out-of-sample explanatory power, regardless of the set of factors and the methodologies used. Their results also suggest that risk parity strategies applied to alternative risk factors could be a better alternative than hedge fund replication for harvesting alternative risk premia in an efficient way.”
 
The paper finds that a key challenge for the alternative investment industry remains the capacity to develop investable efficient low-cost proxies for harvesting alternative risk premia not only in equity markets but also in the fixed income, currencies and commodity markets.
 
Commenting on this study, Thierry Roncalli, Head of Research & Development at Lyxor Asset Management, says: “The results of EDHEC-Risk Institute question the role of alternative risk premia in a low or negative interest rate environment. We already knew them as diversification assets, but this study shows that they are potential candidates as performance assets. Therefore, this research opens a door for reconsidering the traditional equity/bond asset mix policy.”
 
A copy of “Factor Investing and Risk Allocation: From Traditional to Alternative Risk Premia Harvesting” can be downloaded here.

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