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Long-Term versus Short-Term Contingencies in Asset Allocation

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  • Mahmoud Botshekan

    ()
    (VU University Amsterdam)

  • Andre Lucas

    ()
    (VU University Amsterdam, and Duisenberg school of finance)

Abstract

We determine the importance of long-term and short-term components of state variables for asset allocation decisions. The long-term and short-term decompositions are performed using a variety of filtering techniques. We allow for a flexible semiparametric form of the dependence of asset allocation decisions on state variable components. To account for short-sale restrictions, we extend the regular GMM moment conditions with the appropriate Lagrange-Kuhn-Tucker multipliers. Empirically, we find that investors can benefit from reacting differently to short-term versus long-term dynamics of state variables. The induced allocation decisions are implemented in an investment backtest. We find significant improvements in terms of out-of-sample Sharpe ratios and expected utilities for state variables such as the dividend yield and stock market trend.

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Bibliographic Info

Paper provided by Tinbergen Institute in its series Tinbergen Institute Discussion Papers with number 12-053/2/DSF34.

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Date of creation: 15 May 2012
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Handle: RePEc:dgr:uvatin:20120053

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Web page: http://www.tinbergen.nl

Related research

Keywords: Portfolio choice; long and short-term asset allocation; trend-cycle decomposition; GMM under short-sale constraints;

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