Volatility targeting is an investment strategy that aims to maintain a constant or predefined level of risk exposure by dynamically adjusting asset allocations based on observed or predicted market volatility. In crypto, this means systematically increasing or decreasing positions in digital assets to keep the portfolio’s overall volatility within a desired, specified range.
Mechanism
The mechanism involves continuous monitoring of the realized or implied volatility of the portfolio’s constituent assets. When volatility rises, the strategy automatically reduces the portfolio’s exposure to those assets, often by decreasing position sizes or reallocating to less volatile instruments. Conversely, when volatility falls, exposure is increased. This rebalancing is typically executed algorithmically based on sophisticated quantitative models.
Methodology
The methodology operates on the principle of risk parity, seeking to normalize the risk contribution of different assets or to precisely control the aggregate risk of a portfolio. It attempts to deliver more consistent risk-adjusted returns by preventing excessive drawdowns during high-volatility periods and participating more fully during low-volatility regimes. This framework is a core component of many quantitative and systematic trading strategies in the crypto market.
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