Conditional Volatility Targeting

doi:10.1080/0015198X.2020.1790853

2020-09-04

Dion Bongaerts *

Xiaowei Kang

Mathijs A. van Dijk

DOI：10.1080/0015198X.2020.1790853

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Disclosure:The authors report no conflicts of interest. The views expressed in this article are those of the authors in their personal capacity and do not reflect the views of the Rotterdam School of Management or the Abu Dhabi Investment Authority. Editor's Note Submitted 6 March 2020 Accepted 23 June 2020 by Stephen J. Brown This article was externally reviewed using our double-blind peer-review process. When the article was accepted for publication, the authors thanked the reviewers in their acknowledgments. Lisa Goldberg and one anonymous reviewer were the reviewers for this article. In analyzing the performance of volatility-targeting strategies, we found that conventional volatility targeting fails to consistently improve performance in global equity markets and can lead to markedly greater drawdowns. Motivated by return patterns in various volatility states, we propose a strategy ofconditional volatility targetingthat adjusts risk exposures only in the extremes during high- and low-volatility states. This strategy consistently enhances Sharpe ratios and reduces drawdowns and tail risks, with low turnover and leverage, when used in the major equity markets and for momentum factors across regions. Conditional volatility management can also be applied to tactical allocations among multiple assets or risk factors.

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