Diversification should be the first objective of any large institutions because managing risk is a key source of long-term performance. However, building a diversified portfolio cannot only be reduced to the allocation policy between asset classes, such as stocks and bonds. Diversification can be improved by using alternative risk premia, in particular carry and momentum. Mixing traditional and alternative risk premia will then become the standard of diversified management in the near future.
The traditional diversification approach consists in optimising the volatility of a portfolio. This approach is inadequate for managing diversification because it focuses on arbitrage risk factors and not on common risk factors. When considering traditional risk premia, the standard approach today is to use the risk parity model.