Today’s post rolls out the inaugural Risk Review column for the major asset classes, a monthly update that’s the companion piece to the monthly performance report and risk-premia estimates. Readers can use this trio for a quick summary of historical and expected return and how that compares with several measures of risk.
Risk analysis is a broad and deep subject and so this monthly update will be no one’s idea of a comprehensive treatment. Rather, the goal is to offer a comparison of the major asset classes in one fell swoop for a range of metrics—a comparison that’s not exactly ubiquitous among the usual suspects for financial news.
With that in mind, the table below highlights several flavors of risk for the trailing 10-year window through the end of last month (Apr. 30, 2021). For perspective on how risk stacks up relative to performance, the assets are ranked by trailing 10-year annualized return.
For the underlying indexes that represent the asset classes, you can refer to the table in the performance report post referenced above.
For a bit of historical context on how risk has evolved, a regular feature in this update will be a chart of rolling 3-year annualized Sharpe ratio for US stocks (Russell 3000 Index), US bonds (Bloomberg Aggregate Bond Index) and the Global Market Index (GMI), an unmanaged, market-value-weighted portfolio that holds all the major asset classes (except cash) and represents a theoretical benchmark of the “optimal” portfolio.
For reference, here are brief definitions of each risk metric:
- Volatility: annualized standard deviation of monthly return
- Sharpe ratio: ratio of monthly returns/monthly volatility (risk-free rate is assumed to be zero)
- Sortino ratio: excess performance of downside semi-variance (assuming 0% threshold target)
- Ulcer Index: duration of drawdowns by selecting negative return for each period below the previous peak or high water mark
- Maximum Drawdown: the deepest peak-to-trough decline
- Beta: measure of volatility relative to an index (in this case GMI)