Risk-based Portfolio Optimization is ... Risky!
It’s not enough to say you’ve mitigated all your risk in the face of present economic change, but one must be able to quantify, measure and modify it often, in order to stay on the maximum potential return of a chosen portfolio strategy over time periods. Note the emphasis on the plural. The dilemma, to maintain a selection of quality assets on a portfolio's efficient frontier that add incrementally more return while not adding more risk. The problem is that flushing out risk can bring you closer to the market average. Risk-based portfolio optimization schemes, such as Mean-Variance Optimization (MVO) can suffer from unintentional mistakes (decisions made) because MVO tends to weight the historically higher returning assets more heavily, at the expense of ignoring potentially higher returning assets looking forward. In other words, there may be a greater chance that a great performer may no longer perform great, and alternative assets could add a higher return while decreasing the ...