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Wealth management: Modeling the nonlinear dependence

Author

Listed:
  • Montenegro, Mariana Rosa

    (Faculdade de Economia, Administração e Contabilidade, University of Brasília)

  • Albuquerque, Pedro Henrique Melo

    (Faculdade de Economia, Administração e Contabilidade, University of Brasília)

Abstract

This work aims at the development of an enhanced portfolio selection method, which is based on the classical portfolio theory proposed by Markowitz (1952) and incorporates the local Gaussian correlation model for optimization. This novel method of portfolio selection incorporates two assumptions: the non-linearity of returns and the empirical observation that the relation between assets is dynamic. By selecting ten assets from those available in Yahoo Finance from S&P500, between 1985 and 2015, the performance of the new proposed model was measured and compared to the model of portfolio selection of Markowitz (1952) . The results showed that the portfolios selected using the local Gaussian correlation model performed better than the traditional Markowitz (1952) method in 63% of the cases using block bootstrap and in 71% of the cases using the standard bootstrap. Comparing the calculated Sharpe ratios, the proposed model yielded a better adjusted risk-return in the majority of the cases studied.

Suggested Citation

  • Montenegro, Mariana Rosa & Albuquerque, Pedro Henrique Melo, 2017. "Wealth management: Modeling the nonlinear dependence," Algorithmic Finance, IOS Press, vol. 6(1-2), pages 51-65.
    • Handle: RePEc:ris:iosalg:0058
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    More about this item

    Keywords

    Portfolio selection; local Gaussian correlation; nonlinear dependence;
    All these keywords.

    JEL classification:

    • C00 - Mathematical and Quantitative Methods - - General - - - General

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