Risk parity portfolio: what it is and how it works

Written by the Tactfolio research teamPublished Data as of 7 min read

Risk parity is a way to build a portfolio so each asset adds about the same amount of risk. It balances risk instead of money. Because bonds swing far less than stocks, a risk parity portfolio holds much more in bonds than in stocks. Big funds often add borrowed money to lift returns, and the approach can struggle when stocks and bonds fall together, as they did in 2022.

Key points#

  • A normal 60/40 mix of stocks and bonds looks balanced in dollars, but stocks drive most of its ups and downs.
  • Risk parity sizes each asset by how much it swings. Calmer assets get more money.
  • Without borrowing, a risk parity portfolio is calmer than 60/40 but usually earns less.
  • Large risk parity funds use leverage, meaning borrowed money or futures, to reach a higher target.
  • It works best when its assets do not fall at the same time. In 2022, stocks and bonds both fell.

Risk note. Leverage makes losses bigger as well as gains. You can lose more than you put in.

What is a risk parity portfolio?#

A risk parity portfolio is one where each asset class contributes about the same share of the portfolio’s total risk. “Parity” means equal. “Risk” here usually means volatility, how much an asset’s price swings up and down in a year.

Because it follows fixed rules, it is a common building block in algorithmic trading and long-term investing. The idea starts with a problem in the classic 60/40 portfolio. In 2005, Edward Qian of PanAgora Asset Management looked at US stocks and bonds from 1983 to 2004. He found that in a 60/40 mix, stocks made up about 93% of the risk (PanAgora). So a “balanced” portfolio was really a stock portfolio with some bonds on the side.

Equal risk vs equal dollars: a worked example#

Say you have two assets:

  • Stocks, which swing about 16% a year.
  • Bonds, which swing about 5% a year.

These are round numbers for the example. A rough way to size each asset’s risk is its weight times its volatility.

PortfolioStocksBondsStock risk (weight × 16%)Bond risk (weight × 5%)
60/4060%40%9.62.0
Equal dollars (50/50)50%50%8.02.5
Risk parity24%76%3.83.8

In the 60/40 mix, stocks bring almost five times as much risk as bonds. In the risk parity mix, each brings the same amount.

How do you get 24% and 76%? Give each asset a weight in proportion to 1 divided by its volatility. That is 1/16 for stocks and 1/5 for bonds. Bonds get about 3 times as much money because they swing about a third as much. This simple version is called inverse volatility weighting.

Now put $10,000 in. The risk parity mix holds about $2,400 in stocks and $7,600 in bonds.

Why does risk parity use leverage?#

Risk parity uses leverage because a bond-heavy portfolio is calm, and calm portfolios usually earn less. To reach the return investors want, big funds borrow to own more of the whole mix.

In our example, the risk parity mix swings about half as much as the 60/40 mix. To match 60/40’s swings, a fund would need to hold about $1.80 of assets for every $1 of its own money. Large funds often do this with futures, which are contracts that give exposure without paying the full price up front.

Clifford Asness, Andrea Frazzini and Lasse Pedersen explained why this might pay. In a 2012 paper in the Financial Analysts Journal, they argued that many investors cannot or will not borrow (AQR). To get more return, those investors pile into risky assets like stocks instead. That can leave safer assets with better return for their risk. Risk parity uses leverage to take advantage of that. The authors note that leverage brings its own risks, and that they work at a firm that offers risk parity funds.

Our guide to leverage covers how borrowing makes both gains and losses larger.

What is the Bridgewater All Weather story?#

Bridgewater Associates launched its All Weather strategy in 1996, first for Ray Dalio’s family trust (Bridgewater). The goal was a portfolio that does not depend on guessing the economy.

Dalio’s team split the world into four settings: growth higher or lower than expected, and inflation higher or lower than expected. Each asset tends to do well in some settings and badly in others. All Weather puts about equal risk on each setting. Bridgewater’s fund uses leverage, inflation-linked bonds and many markets.

A simple version reached the public in Tony Robbins’s 2014 book Money: Master the Game. It holds 30% stocks, 55% Treasuries, and 15% gold and commodities, with no borrowing. You can see it as the All Weather Portfolio.

How have risk parity strategies done?#

The table shows four classic portfolios built around balance or risk parity. The figures are from hypothetical backtests as of September 25, 2026. They use daily prices with dividends reinvested and a 0.05% cost per trade.

StrategyTest startsYearly returnWorst drawdown2022
All Weather PortfolioEarly 2006About 6%About 24%−19%
US Risk Parity Trend-FollowingMid-2007About 4.2%About 11%−6.5%
Global Risk Parity Trend-FollowingJanuary 2013About 3%About 12%Lost money
Golden ButterflyLate 2004About 8%About 20%−13%

A drawdown is a fall from a high point to a later low. For comparison, the S&P 500 returned about 11% a year from the mid-2000s, with a worst drawdown of about 55%.

The two trend-following versions add a rule on top of risk parity. They move any asset below its 10-month average into Treasury bills. That is trend following, and it is why the US version lost much less in 2022. The Golden Butterfly is not strict risk parity. It holds a fixed fifth in each of five assets, but shares the goal of balance.

What went wrong in 2022?#

Risk parity depends on stocks and bonds not falling at the same time. In 2022, inflation jumped and interest rates rose fast. Bond prices fall when rates rise, so stocks and bonds fell together.

That hurt most where bonds were biggest. The All Weather Portfolio lost 19% in 2022, slightly more than the S&P 500. Its drawdown ran from November 2021 to October 2022, and it did not get back to its old high until August 2025. Funds using leverage on top of bonds felt the fall even more.

Common mistakes#

  • Thinking low swings mean low risk. Bonds can fall hard when rates rise, as 2022 showed.
  • Copying a fund’s leverage at home. Borrowing on margin can force you to sell at the worst time.
  • Using too short a window. Volatility measured over a calm year can make an asset look safer than it is.
  • Expecting stock-like returns without leverage. An unlevered risk parity mix usually earns less than stocks.

Try it on Tactfolio#

Tactfolio can build unlevered risk parity, but it cannot borrow. In the strategy builder, a Weight block set to Inverse vol gives calmer holdings more money, exactly as in the example above. You can also open the classic strategies in the table, read their rules, and copy one to change the funds. Strategies are long only, with no margin or short selling. Leveraged ETFs can be held like any other fund. These funds reset daily. Held for longer, their returns can differ a lot from the multiple in their name. The leverage parts of this page are education only. To mix risk parity with signals, see tactical asset allocation.

Common questions#

What is a risk parity portfolio?#

It is a portfolio where each asset class adds about the same share of total risk. Because bonds swing less than stocks, it holds more bonds than stocks. Many professional versions add leverage to raise returns.

Is the All Weather portfolio risk parity?#

Bridgewater’s All Weather fund is one of the best-known risk parity strategies. The simple version from Tony Robbins’s book is a fixed, unlevered mix inspired by it. It holds more bonds than stocks, as risk parity does, but its weights are set by hand rather than calculated.

Does risk parity work?#

It has given smoother results than stock-heavy portfolios in many periods, but it is not a sure thing. Asness, Frazzini and Pedersen tested a leveraged risk parity mix of US stocks and bonds. It beat a 60/40 mix from 1926 to 2010. They also wrote that this history alone may not settle the question. It struggled in 2022 when stocks and bonds fell together.

Why did risk parity do badly in 2022?#

Inflation and fast rate rises pushed stocks and bonds down at the same time. Risk parity holds a lot of bonds, and many funds use leverage on them. That made losses larger than many investors expected.

What is inverse volatility weighting?#

It gives each asset a weight in proportion to 1 divided by its volatility, so calmer assets get more money. It is the simplest form of risk parity. It ignores how assets move together, which full risk parity models include.

The details#

Full risk parity sets each asset’s risk contribution equal. An asset’s contribution is its weight times its covariance with the portfolio, divided by the portfolio’s volatility. With two assets and zero correlation, this gives the same answer as inverse volatility weights. With correlation, the weights must be solved for, usually with a numerical method.

In the example, with zero correlation, the risk parity mix swings about 5.4% a year, and the 60/40 mix about 9.8%. Matching 60/40’s swings takes roughly 1.8 times leverage, before borrowing costs.

Sources

Put it into practice