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Portfolio optimization with stochastic dominance constraints

  • Dentcheva, Darinka
  • Ruszczynski, Andrzej

We consider the problem of constructing a portfolio of finitely many assets whose returns are described by a discrete joint distribution. We propose a new portfolio optimization model involving stochastic dominance constraints on the portfolio return. We develop optimality and duality theory for these models. We construct equivalent optimization models with utility functions. Numerical illustration is provided.

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Article provided by Elsevier in its journal Journal of Banking & Finance.

Volume (Year): 30 (2006)
Issue (Month): 2 (February)
Pages: 433-451

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Handle: RePEc:eee:jbfina:v:30:y:2006:i:2:p:433-451
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  1. G. Hanoch & H. Levy, 1969. "The Efficiency Analysis of Choices Involving Risk," Review of Economic Studies, Oxford University Press, vol. 36(3), pages 335-346.
  2. W. Ogryczak & A. Ruszczynski, 1997. "From Stochastic Dominance to Mean-Risk Models: Semideviations as Risk Measures," Working Papers ir97027, International Institute for Applied Systems Analysis.
  3. Rothschild, Michael & Stiglitz, Joseph E., 1970. "Increasing risk: I. A definition," Journal of Economic Theory, Elsevier, vol. 2(3), pages 225-243, September.
  4. Harry Markowitz, 1952. "Portfolio Selection," Journal of Finance, American Finance Association, vol. 7(1), pages 77-91, 03.
  5. Sharpe, William F., 1971. "A Linear Programming Approximation for the General Portfolio Analysis Problem," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 6(05), pages 1263-1275, December.
  6. Darinka Dentcheva & Andrzej Ruszczynski, 2004. "Convexification of Stochastic Ordering," GE, Growth, Math methods 0402005, EconWPA, revised 05 Aug 2005.
  7. G. Hanoch & H. Levy, 1969. "The Efficiency Analysis of Choices Involving Risk," Review of Economic Studies, Oxford University Press, vol. 36(3), pages 335-346.
  8. Haim Levy, 1992. "Stochastic Dominance and Expected Utility: Survey and Analysis," Management Science, INFORMS, vol. 38(4), pages 555-593, April.
  9. Andrzej Ruszczynski & Robert J. Vanderbei, 2003. "Frontiers of Stochastically Nondominated Portfolios," Econometrica, Econometric Society, vol. 71(4), pages 1287-1297, 07.
  10. Hadar, Josef & Russell, William R, 1969. "Rules for Ordering Uncertain Prospects," American Economic Review, American Economic Association, vol. 59(1), pages 25-34, March.
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