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Limited Downside Risk In Portfolio Selection Among U.S. And Pacific Basin Equities

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DENNIS W. JANSEN

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Abstract

In this paper we demonstrate safety first portfolio selection using extreme value theory. We show that Roy's safety first criterion can be improved on by exploiting the fat tail property of asset returns. Using daily data for a set of international stock indices for the period 1986-May 2000, we calculate the so-called tail indexes, which are accurate measures of the fat-tailedness of the stock return distributions, and use these to calculate minimum threshold return levels given very low exceedence probabilities for investors. This example is but one way that the theory of extremes can be utilized in economics and finance. [G II]

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Publisher Info
Article provided by Korean International Economic Association in its journal International Economic Journal.

Volume (Year): 15 (2001)
Issue (Month): 4 (December)
Pages: 1-22
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Handle: RePEc:taf:intecj:v:15:y:2001:i:4:p:1-22

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Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

  1. Pagan, Adrian R. & Schwert, G. William, 1990. "Alternative models for conditional stock volatility," Journal of Econometrics, Elsevier, vol. 45(1-2), pages 267-290. [Downloadable!] (restricted)
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  2. Loretan, Mico & Phillips, Peter C. B., 1994. "Testing the covariance stationarity of heavy-tailed time series: An overview of the theory with applications to several financial datasets," Journal of Empirical Finance, Elsevier, vol. 1(2), pages 211-248, January. [Downloadable!] (restricted)
  3. Jansen, Dennis W. & Koedijk, Kees G. & de Vries, Casper G., 2000. "Portfolio selection with limited downside risk," Journal of Empirical Finance, Elsevier, vol. 7(3-4), pages 247-269, November. [Downloadable!] (restricted)
  4. Hall, Peter, 1990. "Using the bootstrap to estimate mean squared error and select smoothing parameter in nonparametric problems," Journal of Multivariate Analysis, Elsevier, vol. 32(2), pages 177-203, February. [Downloadable!] (restricted)
  5. Jansen, Dennis W & de Vries, Casper G, 1991. "On the Frequency of Large Stock Returns: Putting Booms and Busts into Perspective," The Review of Economics and Statistics, MIT Press, vol. 73(1), pages 18-24, February. [Downloadable!] (restricted)
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  6. Arzac, Enrique R. & Bawa, Vijay S., 1977. "Portfolio choice and equilibrium in capital markets with safety-first investors," Journal of Financial Economics, Elsevier, vol. 4(3), pages 277-288, May. [Downloadable!] (restricted)
  7. Longin, Francois M, 1996. "The Asymptotic Distribution of Extreme Stock Market Returns," Journal of Business, University of Chicago Press, vol. 69(3), pages 383-408, July. [Downloadable!] (restricted)
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  1. Chen Zou, 2009. "Dependence structure of risk factors and diversification effects," DNB Working Papers 219, Netherlands Central Bank, Research Department. [Downloadable!]
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