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Practical weight-constrained conditioned portfolio optimization using risk aversion indicator signals

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  • Jang Schiltz
  • Marc Boissaux

    (LSF)

Abstract

Within a traditional context of myopic discrete-time mean-variance portfolio optimisation, the problem of conditioned optimisation, in which predictive information about returns contained in a signal is used to inform the choice of portfolio weights, was first expressed and solved in concrete terms by Ferson and Siegel ([1]). An optimal control formulation of conditioned portfolio problems was proposed and justified by Boissaux and Schiltz ([2]). This opens up the possibility of solving variants of the basic problem that do not allow for closed-form solutions through the use of standard numerical algorithms used for the discretisation of optimal control problems. The present paper contributes to the empirical literature on this topic. Risk aversion (or, equivalently, risk appetite) indicators, aiming to quantify different time-varying definitions of investor attitudes toward risk, are both provided by financial service providers and discussed in the academic literature - see e.g. Coudert and Gex ([3]). We compare the performance of strategies resulting from conditioned optimization and using several possible indicators for signalling purposes, to that obtained using standard approaches to portfolio investment. In particular, we report on both ex ante improvements to the accessible efficient frontier as measured through the typical associated metrics such as the Sharpe ratio, and ex post results affected, most notably, by specification errors regarding the relationship between signal and returns. We then discuss different problem parameters, examine their impact on performance and check whether significant ex post improvements may be achieved through optimal parameter selection.

Suggested Citation

  • Jang Schiltz & Marc Boissaux, 2011. "Practical weight-constrained conditioned portfolio optimization using risk aversion indicator signals," DEM Discussion Paper Series 11-12, Department of Economics at the University of Luxembourg.
  • Handle: RePEc:luc:wpaper:11-12
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    3. Knut Rosendahl & Jon Strand, 2015. "Emissions Trading with Offset Markets and Free Quota Allocations," Environmental & Resource Economics, Springer;European Association of Environmental and Resource Economists, vol. 61(2), pages 243-271, June.
    4. Strand, Jon, 2013. "Strategic climate policy with offsets and incomplete abatement: Carbon taxes versus cap-and-trade," Journal of Environmental Economics and Management, Elsevier, vol. 66(2), pages 202-218.
    5. Jon Strand, 2019. "Combining Carbon Taxation and Offset Payments: A New Approach to Climate Policy in Low-Income Countries," Environmental & Resource Economics, Springer;European Association of Environmental and Resource Economists, vol. 74(3), pages 949-960, November.
    6. Thierry Bréchet & Carmen Camacho & Vladimir M. Veliov, 2012. "Adaptive Model-Predictive Climate Policies in a Multi-Country Setting," Université Paris1 Panthéon-Sorbonne (Post-Print and Working Papers) halshs-00718659, HAL.
    7. Sabine Aresin, 2015. "Reduced Allowability and the Allocation of Emission Abatement," Working Papers tax-mpg-rps-2015-12, Max Planck Institute for Tax Law and Public Finance.
    8. Fabio Antoniou & Panos Hatzipanayotou & Nikos Tsakiris, 2021. "Strategic Export Motives and Linking Emission Markets," CESifo Working Paper Series 8847, CESifo.
    9. Strand, Jon, 2016. "Mitigation incentives with climate finance and treaty options," Energy Economics, Elsevier, vol. 57(C), pages 166-174.
    10. Venkatachalam ANBUMOZHI, 2015. "Low Carbon Green Growth in Asia: What is the Scope for Regional Cooperation?," Working Papers DP-2015-29, Economic Research Institute for ASEAN and East Asia (ERIA).
    11. Thomas Baudin & David de La Croix & Paula Gobbi, 2012. "DINKs, DEWKs & Co. Marriage, Fertility and Childlessness in the United States," Working Papers hal-00993307, HAL.

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    More about this item

    Keywords

    Optimal Control; Portfolio Optimization;

    JEL classification:

    • C02 - Mathematical and Quantitative Methods - - General - - - Mathematical Economics
    • 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

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