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Variable Selection for Portfolio Choice

Listed author(s):
  • Yacine Ait-Sahalia
  • Michael W. Brandt

We study asset allocation when the conditional moments of returns are partly predictable. Rather than first model the return distribution and subsequently characterize the portfolio choice, we determine directly the dependence of the optimal portfolio weights on the predictive variables. We combine the predictors into a single index that best captures time-variations in investment opportunities. This index helps investors determine which economic variables they should track and, more importantly, in what combination. We consider investors with both expected utility (mean-variance and CRRA) and non-expected utility (ambiguity aversion and prospect theory) objectives and characterize their market-timing, horizon effects, and hedging demands.

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File URL: http://www.nber.org/papers/w8127.pdf
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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 8127.

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Date of creation: Feb 2001
Publication status: published as "Variability Selection for Portfolio Choice", Journal of Finance, Vol. 56,pp. 1297-1351 (2001).
Handle: RePEc:nbr:nberwo:8127
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