PT  - JOURNAL ARTICLE
AU  - Rao, Anil
AU  - Subramanian, Raman Aylur
AU  - Melas, Dimitris
TI  - Practical Applications of Bridging the Gap: <em>Adding Factors to Passive and Active Allocations</em>
AID  - 10.3905/pa.7.2.348
DP  - 2019 Oct 31
TA  - Practical Applications
PG  - 1--5
VI  - 7
IP  - 2
4099  - http://pa.pm-research.com/content/7/2/1.11.short
4100  - http://pa.pm-research.com/content/7/2/1.11.full
AB  - In Bridging the Gap: Adding Factors to Passive and Active Allocations, which appeared in the 2018 Quantitative Special Issue of The Journal of Portfolio Management, Anil Rao, Raman Aylur Subramanian, and Dimtiris Melas (all of MSCI, Inc.) argue that asset owners should use risk budgeting to determine the optimal mix of active and passive investments. To support this assertion, the authors examine the effects of different possible active, passive, and factor (top-down or bottom-up) allocations when the active managers have high tracking errors. The authors also examine the effects of using a minimum-volatility strategy to de-risk the equity program. Ultimately, they found that the optimal allocations were around 40% passive, 30-40% active, and 20-30% factor allocation, with differences in funding source and risk allocation.TOPICS: Analysis of individual factors/risk premia, manager selection