Risk-On Risk-Off Model Portfolios: How the Approaches Differ

A risk-on risk-off model portfolio holds growth assets while a rule says conditions are favorable. When the rule flips, the model cuts exposure. Advisors comparing these models are comparing four things. The trigger, the speed, the destination, and the cost of being wrong.

Most diligence decks compare holdings. Holdings tell you where a model sits today. The rule tells you where it goes next.

What is a risk-on risk-off model portfolio?

It's a model allocation with two or more states. Risk-on means the model carries its full growth exposure. Risk-off means part of that exposure has moved somewhere defensive.

A calendar doesn't decide the switch. A measurement does.

That's the whole difference from a strategic model. Strategic models change weights on a schedule. These change weights on a signal.

What are the alternatives to an options-based risk model?

Three families do this job. They fail in different ways, and that's the useful part.

• Options overlay. The model stays invested and buys or sells options against the position. Hedged equity and buffer structures sit here. The payoff shape is contractual. The premium is a real, recurring cost.
• Signal-based exposure shifts. The model measures price or trend and moves capital between equities and defensive assets. Cash, short Treasuries, and gold are the usual destinations. Nothing is paid up front. The cost shows up later, as whipsaw.
• Volatility targeting. The model sizes positions so estimated volatility stays near a fixed number. Exposure falls as volatility rises. It reacts to moves that already happened, so it lags a fast repricing.

The destination matters as much as the trigger. A model that goes to cash behaves nothing like a model that goes to long Treasuries. Cash has no duration and no drawdown. Treasuries carry rate risk, and 2022 proved they can fall with stocks. Ask where the money lands before you ask how often it moves.

None of the three is an upgrade on the other two. They're different bills for the same service. Pick the bill your client can actually sit through.

How does the rule actually fire?

The mechanics are simpler than most decks make them look. Four steps.

1. Measure. The model reads a defined input on a set cadence. Daily closing price is the most common one.
2. Compare. It tests that reading against a threshold. A moving average, a volatility band, or a fixed level.
3. Confirm. Better models want the break to hold. One close through a line is noise more often than it's a trend.
4. Trade. The model sells the risk sleeve and buys the defensive sleeve. Then it waits for the reverse condition.

Ask which of those four steps a human can override. The answer tells you whether you're buying a rule or a person with a spreadsheet.

What did this look like in 2022?

Use the plainest rule available as the example. Go risk-off when the S&P 500 closes under its 200-day average. Go back when it closes above.

The index set a record close of 4,796.56 on January 3, 2022. It closed under its 200-day average on January 21, near 4,398. The rule sat risk-off from there.

The low close came on October 12, 2022, at 3,577.03. The index didn't close back above the average until late January 2023, near 4,060.

Out near 4,398. Back in near 4,060. The round trip sidestepped a further decline of roughly 19%, and it re-entered about 8% below the exit.

That's the version every manager puts in the deck. It's a real result and it's also one signal across one year. Two trades tell you almost nothing about a rule. You want the full firing history, including the years the rule paid for nothing.

When does a risk-on risk-off model fail?

It fails when the break doesn't follow through. February 2018 is the clean example.

The index closed at 2,581.00 on February 8, 2018, under its 200-day average. It closed at 2,779.60 on February 26, back above it.

Out low, back in higher, eighteen days later. Same rule as 2022. Opposite outcome.

The second failure is slower and costs more. A trend rule exits after real damage and re-enters after real recovery.

March 2020 shows it plainly. The index bottomed at 2,237.40 on March 23, 2020. A 200-day rule didn't re-enter until around May 27, near 3,036.

Roughly 800 index points of rebound that the rule never held. Anyone who shows you the 2022 chart owes you this one too.

Gap risk is the third one. A daily rule can't trade a move that happens overnight. It reads the damage the next morning and acts after.

None of that makes the approach wrong. It makes the approach a trade. You're paying in false signals to avoid holding the long declines.

What should an advisor ask before using one?

• What fires the signal, in one sentence, with no jargon?
• How many times has it fired in the last ten years?
• What happened after the three worst false signals?
• Where does the money go when the model is risk-off?
• Who can override the rule, and how often have they?
• What does the turnover do inside a taxable account?

The false-signal question is the one that gets dodged. A model with no whipsaw in its record either hasn't run long enough or hasn't been tested.

THOR builds models in the second family. The rules read daily price behavior across a broad universe. Exposure shifts toward defensive assets when those readings deteriorate. The approach seeks to reduce drawdowns, and it accepts whipsaw as the price of trying.

Definitions

• Risk-on. The state where a model carries its full intended growth exposure.
• Risk-off. The state where a model has moved exposure into defensive assets.
• Whipsaw. A signal that fires and reverses quickly, costing money on both trades.
• 200-day moving average. The average closing price across the last 200 trading days.
• Volatility target. A fixed level of estimated portfolio volatility that drives position sizing.
• Hedged equity. An equity position paired with an options structure that reshapes the payoff.
• Downside mitigation. Cutting the size of a loss, not removing it.