A recent interview with Professor Eugene Fama represents another sign that much confusion about momentum unfortunately remains. While my faith in Professor Fama is exceptionally high, this is one of the few topics where we fundamentally disagree. While debates and discussions about momentum will undoubtedly continue, in this post I’ve tried to sort out fact from fiction by bringing clarity regarding the facts and interpretations about momentum and debunk some myths along the way.
Cliff argues that certain well-known classic strategies that have worked over the long term will continue to work going forward, though perhaps not at the same level and with different risks than in the past. He focuses on classic “factor”-type strategies, things like value, momentum, carry and quality/defensive.
The role of leverage in risk parity is often misunderstood. The willingness to use modest leverage allows a risk parity investor to build a more diversified, more balanced, higher-return-for-the-risk-taken portfolio. In our view, this more than compensates risk parity investors for the necessity of employing some leverage.
The risk parity-versus-60/40 argument has always been about strategic long term — not tactical short term — asset allocation. Here I argue that, when viewed strategically, the empirical work on risk parity, including some of our own, understates its potential advantages. Moreover, all you need is basic finance theory to see it.