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Macroeconomic Influences on Optimal Asset Allocation

  • Flavin, Thomas
  • Wickens, Michael R.

We develop a tactical asset allocation strategy that incorporates the effects of macroeconomic variables. The joint distribution of financial asset returns and the macroeconomic variables is modelled using a VAR with an M-GARCH error structure. As a result the portfolio frontier is time varying and subject to contagion from the macroeconomic variable. Optimal asset allocation requires that this be taken into account. We illustrate the how to do this using three risky UK assets and inflation as a macroeconomic factor. Taking account of inflation generates portfolio frontiers that lie closer to the origin, and offers investors superior risk-return combinations.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 3144.

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Date of creation: Jan 2002
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Handle: RePEc:cpr:ceprdp:3144
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