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Capturing the Black Swan: Scenario-Based Asset Allocation with Fat Tails and Non-Linear Correlations

Author

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  • Vsevolod I. Gorlach

Abstract

This paper highlights the shortfalls of Modern Portfolio Theory (MPT). Amongst other flaws, MPT assumes that returns are normally distributed; that correlations are linear; and that risks are symmetrical. We propose a dynamic and flexible scenario-based approach to portfolio selection that incorporates an investor’s economic forecast. Extreme Value Theory (EVT) is used to capture the […]

Suggested Citation

  • Vsevolod I. Gorlach, 2017. "Capturing the Black Swan: Scenario-Based Asset Allocation with Fat Tails and Non-Linear Correlations," Working Papers 695, Economic Research Southern Africa.
    • Handle: RePEc:rza:wpaper:695
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    More about this item

    Keywords

    investment; Quantitative Methods; Risk and Uncertainty;
    All these keywords.

    JEL classification:

    • C14 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Semiparametric and Nonparametric Methods: General
    • C58 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Financial Econometrics
    • C61 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Optimization Techniques; Programming Models; Dynamic Analysis
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation

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