The impact of heavy tails and comovements in downside-risk diversification
This paper uncovers the factors influencing optimal asset allocation for downside-risk averse investors. These are comovements between assets, the product of marginal tail probabilities, and the tail index of the optimal portfolio. We measure these factors by using the Clayton copula to model comovements and extreme value theory to estimate shortfall probabilities. These techniques allow us to identify useless diversification strategies based on assets with different tail behaviour, and show that in case of financial distress the asset with heavier tail drives the return on the overall portfolio down. An application to financial indexes of UK and US shows that mean-variance and downside-risk averse investors construct different efficient portfolios.
(This abstract was borrowed from another version of this item.)
|Date of creation:||2007|
|Date of revision:|
|Contact details of provider:|| Postal: |
Phone: +44 (0)20 7040 8500
Web page: http://www.city.ac.uk
More information through EDIRC
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Andrew Patton, 2004.
"Modelling Asymmetric Exchange Rate Dependence,"
wp04-04, Warwick Business School, Finance Group.
- Andrew Patton & Yanqin Fan & Xiaohong Chen, 2004.
"Simple Tests for Models of Dependence Between Multiple Financial Time Series, with Applications to U.S. Equity Returns and Exchange Rates,"
wp04-19, Warwick Business School, Finance Group.
- Xiaohong Chen & Yanqin Fan & Andrew J. Patton, 2004. "Simple tests for models of dependence between multiple financial time series, with applications to U.S. equity returns and exchange rates," LSE Research Online Documents on Economics 24681, London School of Economics and Political Science, LSE Library.
- Harry Markowitz, 1952. "Portfolio Selection," Journal of Finance, American Finance Association, vol. 7(1), pages 77-91, 03.
- Danielsson, Jon & Jorgensen, Bjorn N. & Sarma, Mandira & de Vries, Casper G., 2006.
"Comparing downside risk measures for heavy tailed distributions,"
Elsevier, vol. 92(2), pages 202-208, August.
- Casper G. de Vries & Bjørn N. Jorgensen & Sarma Mandira & Jon Danielsson, 2005. "Comparing Downside Risk Measures for Heavy Tailed Distributions," FMG Discussion Papers dp551, Financial Markets Group.
- Jon Danielsson & Bjørn N. Jorgensen & Mandira Sarma & C. G. de Vries, 2005. "Comparing downside risk measures for heavy tailed distribution," LSE Research Online Documents on Economics 24671, London School of Economics and Political Science, LSE Library.
- Juri, Alessandro & Wuthrich, Mario V., 2002. "Copula convergence theorems for tail events," Insurance: Mathematics and Economics, Elsevier, vol. 30(3), pages 405-420, June.
- Thomas Mikosch, 2005. "How to model multivariate extremes if one must?," Statistica Neerlandica, Netherlands Society for Statistics and Operations Research, vol. 59(3), pages 324-338.
- Bawa, Vijay S., 1975. "Optimal rules for ordering uncertain prospects," Journal of Financial Economics, Elsevier, vol. 2(1), pages 95-121, March.
- Arzac, Enrique R. & Bawa, Vijay S., 1977. "Portfolio choice and equilibrium in capital markets with safety-first investors," Journal of Financial Economics, Elsevier, vol. 4(3), pages 277-288, May.
- Hogan, William W. & Warren, James M., 1974. "Toward the Development of an Equilibrium Capital-Market Model Based on Semivariance," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 9(01), pages 1-11, January.
- Bawa, Vijay S, 1976. "Admissible Portfolios for All Individuals," Journal of Finance, American Finance Association, vol. 31(4), pages 1169-83, September.
- Bawa, Vijay S. & Lindenberg, Eric B., 1977. "Capital market equilibrium in a mean-lower partial moment framework," Journal of Financial Economics, Elsevier, vol. 5(2), pages 189-200, November.
- Harlow, W. V. & Rao, Ramesh K. S., 1989. "Asset Pricing in a Generalized Mean-Lower Partial Moment Framework: Theory and Evidence," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 24(03), pages 285-311, September.
- Chavez-Demoulin, V. & Embrechts, P. & Neslehova, J., 2006. "Quantitative models for operational risk: Extremes, dependence and aggregation," Journal of Banking & Finance, Elsevier, vol. 30(10), pages 2635-2658, October.
When requesting a correction, please mention this item's handle: RePEc:cty:dpaper:07/02. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Research Publications Librarian)
If references are entirely missing, you can add them using this form.