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Risk budgeting is integral to the execution of CLS portfolio
management. A client’s risk budget is based on the
individual’s financial goals, ability to handle risk, and
overall time horizon. Think of a risk budget as a thermostat. Everyone
has a comfort zone – some may like the thermostat set at
68° while others may prefer 73°. No matter what the
weather is outside, the thermostat adjusts to keep the temperature
inside at a preset level. Risk budgeting is essentially a thermostat
for a client’s portfolio.
Advisors work with each client to determine his or her risk budget.
CLS portfolio managers allocate client accounts so as to keep the risk
level consistent as asset growth is pursued. Once a risk budget is
assigned, that risk cannot be over-spent, nor can it be underused.
Risk budgeting manages the level of risk within the client’s
portfolio.
The key to risk budgeting lies in the CLS risk continuum. Many
investors believe bonds are less risky than stocks and that all bonds
are conservative while all stocks are aggressive. However, through our
risk budgeting methodology, we understand risk actually appears on a
continuum with some equities containing less risk than some bonds, and
vice versa. By maintaining a risk budget and making trades based on
both asset class and the investor's risk budget, we are able to
capitalize on areas of growth and underweight asset classes that are
underperforming.
Key Points of Risk Budgeting
- Even in the same asset class, some funds are much more
volatile than others
- Some bonds can be riskier than some stocks
- The risk level of stocks and bonds varies widely
CLS Portfolio Characteristics
- Portfolios are actively managed
- Portfolio risk is controlled through counterbalancing trades
- Market timing or other more aggressive forms of tactical
asset allocation are not considered
- Outperformance is sought through overweighting favorable
asset classes
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