Wai Lee, chief investment officer and director of research at New York-based Neuberger Berman

Risk management in portfolio construction begins with “knowing your universe” and understanding your investment goals, according to an award winning fund manager.

Wai Lee, chief investment officer and director of research at New York-based Neuberger Berman, was named winner of the 2012 Peter L Bernstein award for his article “Risk-Based Asset Allocation: A New Answer to An Old Question.” The article also won an award from The Journal of Portfolio Management.

Neuberger Berman is active in Australia, and manages around $4 billion in several mandates spread over several institutional investors.

Speaking from New York, Lee told I&T News that he had spent several years researching risk techniques, and had come to the conclusion the best place to start was to understand that “one size does not fit all.”

After comparing many risk management approaches to portfolio construction, from minimum variance to risk parity to maximum diversification, Lee said he favoured a variation of “risk parity” tailored for individual clients.

The concept behind risk parity, which has its origins in the 1960s but has gained in popularity since the global financial crisis, is to build a portfolio through allocating risk rather than capital.

In this approach, each asset class has the same potential for losses and should therefore be more resistant to market downturns than a traditionally constructed portfolio.

“But he first thing to do is for the client to define their universe, and be very clear abotut which asset classes they are excluding or including,” says Lee.

“Then we talk about the investment goals, and issues like their volatility tolerance and draw down points, and then we run them through the various risk management approaches they can take.

“The reality is that not all clients understand how deeply these perform.”

Lee says he has found that the “risk parity” approach can be adapted well to different portfolios, and has performed well for clients.

“We often take the risk parity approach to rebuilding the risk in a client’s portfolio,” says Lee.

“We have several clients who have just started on this approach, and a key challenge is that there is no natural benchmark to evaluate their performance, so the benchmark has to be their investment goals.”


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