Business Cycle–Related Timing of Alternative Risk Premia Strategies

Abstract

Time variation in risk premia is not a violation of market efficiency but rather a reflection of time-varying economic rewards. By analyzing macroeconomic sensitivities (proxying for good and bad times), the authors show that time-varying returns of certain alternative risk premia strategies are significantly related to economic conditions. On the basis of identified return patterns, the authors construct a risk premia timing strategy that adds statistically significant marginal performance with low turnover. They confront data-mining concerns by successfully cross-validating their model across various investment universes. TOPICS:Analysis of individual factors/risk premia, real assets/alternative investments/private equity Key Findings • The authors show that the returns of certain alternative risk premia strategies are statistically significant related to economic conditions. • Evidence provided give no indication that the documented performance patterns are driven by underlying beta exposure. • Given the observed macroeconomic sensitivities the authors construct a risk premia timing strategy that add marginal performance with low turnover to a risk-parity portfolio.