A Trader Journal

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Volatility responsive asset allocation

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Markets can be relatively stable at some points in time and explosively volatile at others. This means that the risk associated with a traditional (fixed-weight) strategic asset allocation policy can be highly variable over time. This paper explores the possibility of a dynamic asset allocation policy that varies as market volatility changes. The conclusion of the paper is that a volatility responsive asset allocation policy can lead to a more consistent outcome and a better trade-off between risk and return.

One thought I had from this paper that I felt would be interesting to traders is - How about overweighting mean reversion setups when market volatility is high and breakout methods when volatility is low? Mean reversion works better when market has good swings (i.e., high volatility). Now many traders use volatility or ATR in bet sizing for valid reasons. But this makes the position size for MR methods small when volatility is high i.e., exactly when environment is conducive to the method.

Feel free to let me know any corrections to above or your thoughts. 


We're quite volatile as individuals, but that doesn't work exponentially when we are together. Relationships are about eating humble pie ~ Unknown

2 comments:

Anonymous said...

Your hunch is correct. Keep going.

January 11, 2013
ATrader said...

Hi Anonymous - Thanks for the comment. The challenge seems to be coming up with a different way to set stops (like time stop) or a risk control measure that doesn't depend on volatility.

January 13, 2013

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