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Nonlinearly weighted convex risk measure and its application

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  • Chen, Zhiping
  • Yang, Li

Abstract

We propose a new class of risk measures which satisfy convexity and monotonicity, two well-accepted axioms a reasonable and realistic risk measure should satisfy. Through a nonlinear weight function, the new measure can flexibly reflect the investor's degree of risk aversion, and can control the fat-tail phenomenon of the loss distribution. A realistic portfolio selection model with typical market frictions taken into account is established based on the new measure. Real data from the Chinese stock markets and American stock markets are used for empirical comparison of the new risk measure with the expected shortfall risk measure. The in-sample and out-of-sample empirical results show that the new risk measure and the corresponding portfolio selection model can not only reflect the investor's risk-averse attitude and the impact of different trading constraints, but can find robust optimal portfolios, which are superior to the corresponding optimal portfolios obtained under the expected shortfall risk measure.

Suggested Citation

  • Chen, Zhiping & Yang, Li, 2011. "Nonlinearly weighted convex risk measure and its application," Journal of Banking & Finance, Elsevier, vol. 35(7), pages 1777-1793, July.
    • Handle: RePEc:eee:jbfina:v:35:y:2011:i:7:p:1777-1793
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    2. Jiang, Chun-Fu & Peng, Hong-Yi & Yang, Yu-Kuan, 2016. "Tail variance of portfolio under generalized Laplace distribution," Applied Mathematics and Computation, Elsevier, vol. 282(C), pages 187-203.
    3. Zhiping Chen & Qianhui Hu & Ruiyue Lin, 2016. "Performance ratio-based coherent risk measure and its application," Quantitative Finance, Taylor & Francis Journals, vol. 16(5), pages 681-693, May.
    4. Chen, Zhi-ping & Li, Gang & Guo, Ju-e, 2013. "Optimal investment policy in the time consistent mean–variance formulation," Insurance: Mathematics and Economics, Elsevier, vol. 52(2), pages 145-156.
    5. Marcelo Brutti Righi & Paulo Sergio Ceretta, 2015. "Shortfall Deviation Risk: An alternative to risk measurement," Papers 1501.02007, arXiv.org, revised May 2016.
    6. Zhiping Chen & Jia Liu & Gang Li & Zhe Yan, 2016. "Composite time-consistent multi-period risk measure and its application in optimal portfolio selection," TOP: An Official Journal of the Spanish Society of Statistics and Operations Research, Springer;Sociedad de Estadística e Investigación Operativa, vol. 24(3), pages 515-540, October.
    7. Wang, Qiyu & Huang, Wenli & Wu, Xin & Zhang, Chao, 2019. "How effective is the tail mean-variance model in the fund of fund selection? An empirical study using various risk measures," Finance Research Letters, Elsevier, vol. 29(C), pages 239-244.

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