Risk Parity and Other Portfolio Approaches
Why a 60/40 portfolio is over 90% shares when measured by risk, how risk parity tries to fix that and what it bets on instead, and how the other ways of building a portfolio compare.
The short version
Measured in dollars, a 60/40 portfolio is balanced. Measured by where its risk comes from, it's about 93% shares. Risk parity sets the weights so that each asset contributes the same risk, which means holding much more in bonds, and it usually borrows to bring the return back up. On a century of US data it was no more efficient than 60/40. It looked brilliant from 1982 through 2021, when bonds had their best decades, and it lost 28% in 2022, when bonds had their worst year. Every approach to building a portfolio rests on some estimate and carries some hidden bet. Comparing them comes down to asking what each one needs you to know, what it depends on, and how it behaves when that goes wrong.
By the end of this lesson, you'll be able to
- Calculate how much of a portfolio's risk comes from each holding
- Explain how risk parity sets its weights, why it uses borrowing, and what conditions it depends on
- Compare market-value, equal-weight, minimum-risk, fixed-mix, and goal-based approaches by what each assumes
Why this matters
A fixed mix such as 60/40 is the usual starting point, and this track has used it throughout. It isn't the only way to build a portfolio, and it has a feature that's easy to miss. This lesson looks at that feature, at the best-known attempt to remove it, and at the other approaches you'll meet in fund descriptions and from advisers. The aim isn't to pick a winner. It's to be able to ask the right questions of any of them.
Where a portfolio's risk comes from
Covariance, Correlation, and Beta gave the formula for the variance of a two-asset portfolio. Its terms can be assigned to the assets, with the shared term split between them.
| Shares' own term: 0.60² × 0.19404² | 0.013554 |
|---|---|
| Half of the shared term: 0.60 × 0.40 × 0.00028 | 0.000067 |
| Risk from shares | 0.013621 |
| Portfolio variance | 0.014687 |
| Shares' part of the risk | 92.7% |
The inputs are from Aswath Damodaran's yearly returns for the S&P 500 and 10-year Treasury bonds.1 Shares are 60% of the money and 93% of the risk, because they're about two and a half times as volatile as bonds and variance works on the square. The bonds are there, and the portfolio's fate is still decided almost entirely by the share market.
That's not an error in the 60/40 portfolio. Shares have had much higher returns, and holding more of the higher-returning asset is a reasonable thing to do. It's worth knowing, though, that "balanced" describes the dollars and not the risk.
The rest of this lesson is for members
Still to come in this lesson: Risk parity, Other ways to build a portfolio, Questions for any approach, the key takeaways, and 2 quiz questions with explanations.
Membership opens every lesson in the curriculum, the capstone projects, the interactive tools, and the members-only channels in the Hyperion Entities Discord. The first lesson of every module stays free.
Go deeper
- What These Models MissPortfolio Theory and Risk (depth track)
- Rebalancing Strategies in DepthPortfolio Theory and Risk (depth track)
- Modern Portfolio Theory and the Efficient FrontierPortfolio Theory and Risk (depth track)
- Margin and Short SellingPart 1: Foundations
Notes and sources
- Aswath Damodaran, NYU Stern School of Business. Historical Returns on Stocks, Bonds and Bills, with annual data through 2025 (updated January 2026). Checked 2026-10-12. Back to text