04. Calculating Risk Parity Asset Weights Demo

Part 1 - Rolling Volatility to Determine Asset Weights

PRDTM2-786 AI Trading C3 L4 4 Demo Calculating Risk-Parity Asset Weights-Pt.1

Part 2- Avoiding Look Ahead Bias

PRDTM2-786 AI Trading C3 L4 5 Demo Calculating Risk-Parity Asset Weights-Pt.2

Risk Parity Asset Weights: Avoiding Look Ahead Bias

This segment focuses on refining the process to ensure effective risk parity weight calculation while avoiding look-ahead bias and enhancing the robustness of investment strategies.

Steps to Ensuring Historical Validity:

  1. Understanding Volatility:

    • Normalize past volatilities to establish initial risk parity weights.

  2. Preventing Look Ahead Bias:

    • Shift weights by one period to use only historical data.
    • Ensures decisions rely solely on past, not future, information.

  3. Adjustment Technique:

    • Move weights one month forward, aligning each month's returns with the previous month's data.

Calculating Realistic Portfolio Returns:

  • Weighted Returns:

    • Apply shifted weights to each asset's returns.
    • Calculate returns by multiplying each asset's return with its corresponding period weight.

  • Overall Portfolio Return:

    • Sum weighted returns across all assets for the total portfolio return.

Observations:

  • Initial rows may show zeros due to earlier rolling window calculations.
  • This method supports a transparent and future-proof investment approach by focusing on historical, data-driven decisions.

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