Long Term Optimal Portfolio Allocation Under Dynamic Horizon Specific Risk Aversion
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Strategic Asset Allocation
| Author | : John Y. Campbell |
| Publisher | : OUP Oxford |
| Total Pages | : 272 |
| Release | : 2002-01-03 |
| Genre | : Business & Economics |
| ISBN | : 019160691X |
Academic finance has had a remarkable impact on many financial services. Yet long-term investors have received curiously little guidance from academic financial economists. Mean-variance analysis, developed almost fifty years ago, has provided a basic paradigm for portfolio choice. This approach usefully emphasizes the ability of diversification to reduce risk, but it ignores several critically important factors. Most notably, the analysis is static; it assumes that investors care only about risks to wealth one period ahead. However, many investors—-both individuals and institutions such as charitable foundations or universities—-seek to finance a stream of consumption over a long lifetime. In addition, mean-variance analysis treats financial wealth in isolation from income. Long-term investors typically receive a stream of income and use it, along with financial wealth, to support their consumption. At the theoretical level, it is well understood that the solution to a long-term portfolio choice problem can be very different from the solution to a short-term problem. Long-term investors care about intertemporal shocks to investment opportunities and labor income as well as shocks to wealth itself, and they may use financial assets to hedge their intertemporal risks. This should be important in practice because there is a great deal of empirical evidence that investment opportunities—-both interest rates and risk premia on bonds and stocks—-vary through time. Yet this insight has had little influence on investment practice because it is hard to solve for optimal portfolios in intertemporal models. This book seeks to develop the intertemporal approach into an empirical paradigm that can compete with the standard mean-variance analysis. The book shows that long-term inflation-indexed bonds are the riskless asset for long-term investors, it explains the conditions under which stocks are safer assets for long-term than for short-term investors, and it shows how labor income influences portfolio choice. These results shed new light on the rules of thumb used by financial planners. The book explains recent advances in both analytical and numerical methods, and shows how they can be used to understand the portfolio choice problems of long-term investors.
Essays on Optimal Portfolio Decisions for Long-term Investors
| Author | : Hui-Ju Tsai |
| Publisher | : |
| Total Pages | : 116 |
| Release | : 2010 |
| Genre | : Asset allocation |
| ISBN | : |
This dissertation contains two essays on the optimal portfolio decision for long-term investors. The first essay studies the optimal asset allocation for long-horizon investors with non-tradable labor income when multiple risky asset returns are predictable. It finds that more risk-averse investors hold a higher bond/stock ratio in their risky portfolios when labor income is positively correlated with stock return or independent of risky asset returns, but the reverse is true when labor income is positively correlated with bond return. The allocation to stock inherits the inverted U-shaped pattern of labor income growth with respect to expected time until retirement. These results suggest that popular recommendations of investment advisors that more conservative investors should hold a higher bond/stock ratio and that the portfolio allocation to stock should equal 100 minus age may both lack theoretical justification. In the out-of-sample performance test, the dynamic portfolio shows the highest mean returns and Sharpe ratio than two benchmark portfolios, justifying the economic significance of incorporating the time-variation of investment opportunities and nontradable labor income into investors' portfolio choice. The second essay studies employees' optimal portfolio in their defined contribution pension plans. Assuming a discrete time model with predictable risky asset returns, the essay finds that the employees' optimal portfolio decision can be greatly affected by the employees' time to retirement, risk preference, contribution rate as well as the correlation between labor income and asset returns. Performance test shows that the gains from adopting the dynamic portfolio strategy relative to several benchmark strategies, including the 1/n rule, the optimal static strategy with and without the consideration of asset return predictability, all stock strategy, and all company stock strategy, are economically significant and the economic gain increases with employees' risk aversion. The empirical evidence that employees invest significantly in their company stock in pension plans is difficult to be justified, even after the consideration of short-sale constraints, higher expected company stock return, employees' familiarity with their company, and employers' exclusive match policy. Over allocation to company stock can be very costly, especially to conservative employees.
Adaptive Asset Allocation
| Author | : Adam Butler |
| Publisher | : John Wiley & Sons |
| Total Pages | : 244 |
| Release | : 2016-02-02 |
| Genre | : Business & Economics |
| ISBN | : 1119220394 |
Build an agile, responsive portfolio with a new approach to global asset allocation Adaptive Asset Allocation is a no-nonsense how-to guide for dynamic portfolio management. Written by the team behind Gestaltu.com, this book walks you through a uniquely objective and unbiased investment philosophy and provides clear guidelines for execution. From foundational concepts and timing to forecasting and portfolio optimization, this book shares insightful perspective on portfolio adaptation that can improve any investment strategy. Accessible explanations of both classical and contemporary research support the methodologies presented, bolstered by the authors' own capstone case study showing the direct impact of this approach on the individual investor. Financial advisors are competing in an increasingly commoditized environment, with the added burden of two substantial bear markets in the last 15 years. This book presents a framework that addresses the major challenges both advisors and investors face, emphasizing the importance of an agile, globally-diversified portfolio. Drill down to the most important concepts in wealth management Optimize portfolio performance with careful timing of savings and withdrawals Forecast returns 80% more accurately than assuming long-term averages Adopt an investment framework for stability, growth, and maximum income An optimized portfolio must be structured in a way that allows quick response to changes in asset class risks and relationships, and the flexibility to continually adapt to market changes. To execute such an ambitious strategy, it is essential to have a strong grasp of foundational wealth management concepts, a reliable system of forecasting, and a clear understanding of the merits of individual investment methods. Adaptive Asset Allocation provides critical background information alongside a streamlined framework for improving portfolio performance.
Understanding Dynamic Mean Variance Asset Allocation
| Author | : Abraham Lioui |
| Publisher | : |
| Total Pages | : 53 |
| Release | : 2016 |
| Genre | : |
| ISBN | : |
We provide a new portfolio decomposition formula that sheds light on the economics of portfolio choice for investors following the mean-variance (MV) criterion. We show that the number of components of a dynamic portfolio strategy can be reduced to two: the first is preference free and hedges the risk of a discount bond maturing at the investor's horizon while the second hedges the time variation in pseudo relative risk tolerance. Both components entail strong horizon effects in the dynamic asset allocation as a result of time-varying risk tolerance and investment opportunity sets. We also provide closed-form solutions for the optimal portfolio strategy in the presence of market return predictability. The model parameters are estimated over the period 1963 to 2012 for the U.S. market. We show that:(i) intertemporal hedging can be very large, (ii) the MV criterion hugely understates the true extent of risk aversion for high values of the risk aversion parameter, and the more so the shorter the investment horizon and, (iii) the efficient frontiers seem problematic for investment horizons shorter than one year but satisfactory for large horizons. Overall, adopting the MV model leads to acceptable results for medium and long term investors endowed with medium or high risk tolerance, but to very problematic ones otherwise.
Behavioral Investment Management: An Efficient Alternative to Modern Portfolio Theory
| Author | : Greg B. Davies |
| Publisher | : McGraw Hill Professional |
| Total Pages | : 384 |
| Release | : 2012-01-12 |
| Genre | : Business & Economics |
| ISBN | : 0071748350 |
The End of Modern Portfolio Theory Behavioral Investment Management proves what many have been thinking since the global economic downturn: Modern Portfolio Theory (MPT) is no longer a viable portfolio management strategy. Inherently flawed and based largely on ideology, MPT can not be relied upon in modern markets. Behavioral Investment Management offers a new approach-one addresses certain realities that MPT ignores, including the fact that emotions play a major role in investing. The authors lay out new standards reflecting behavioral finance and dynamic asset allocation, then explain how to apply these standards to your current portfolio construction efforts. They explain how to move away from the idealized, black-and-white world of MPT and into the real world of investing--placing heavy emphasis on the importance of mastering emotions. Behavioral Investment Management provides a portfolio-management standard for an investing world in disarray. PART 1- The Current Paradigm: MPT (Modern Portfolio Theory); Chapter 1: Modern Portfolio Theory as it Stands; Chapter 2: Challenges to MPT: Theoretical-the assumptions are not thus; Chapter 3: Challenges to MPT: Empirical-the world is not thus; Chapter 4: Challenges to MPT: Behavioural-people are not thus; Chapter 5: Describing the Overall Framework: Investors and Investments; PART 2- Amending MPT: Getting to BMPT; Chapter 1:Investors-The Rational Investor; Chapter 2: Investments-Extracting Value from the long-term; Chapter 3: Investments-Extracting Value from the short-term; Chapter 4: bringing it together, the new BMPT paradigm; PART 3- Emotional Insurance: Sticking with the Journey; Chapter 1: Investors- the emotional investor; Chapter 2: Investments- Constraining the rational portfolio; PART 4- Practical Implications; Chapter 1: The BMPT and Wealth Management; Chapter 2: The BMPT and the Pension Industry; Chapter 3: The BMPT and Asset Managemen
Optimal Value and Growth Tilts in Long-horizon Portfolios
| Author | : Jakub W. Jurek |
| Publisher | : |
| Total Pages | : 92 |
| Release | : 2006 |
| Genre | : Hedging (Finance) |
| ISBN | : |
We develop an analytical solution to the dynamic portfolio choice problem of an investor with utility defined over wealth at a terminal horizon who faces an investment opportunity set with time-varying risk premia, real interest rates and inflation. The variation in investment opportunities is captured by a flexible vector autoregressive parameterization, which readily accommodates a large number of assets and state variables. We find that the optimal dynamic portfolio strategy is an affine function of the vector of state variables describing investment opportunities, with coefficients that are a function of the investment horizon. We apply our method to the optimal portfolio choice problem of an investor who can choose between value and growth stock portfolios, and among these equity portfolios plus bills and bonds.
Portfolio Theory and Management
| Author | : H. Kent Baker |
| Publisher | : Oxford University Press, USA |
| Total Pages | : 816 |
| Release | : 2013-01-07 |
| Genre | : Business & Economics |
| ISBN | : 019931151X |
Portfolio management is an ongoing process of constructing portfolios that balances an investor's objectives with the portfolio manager's expectations about the future. This dynamic process provides the payoff for investors. Portfolio management evaluates individual assets or investments by their contribution to the risk and return of an investor's portfolio rather than in isolation. This is called the portfolio perspective. Thus, by constructing a diversified portfolio, a portfolio manager can reduce risk for a given level of expected return, compared to investing in an individual asset or security. According to modern portfolio theory (MPT), investors who do not follow a portfolio perspective bear risk that is not rewarded with greater expected return. Portfolio diversification works best when financial markets are operating normally compared to periods of market turmoil such as the 2007-2008 financial crisis. During periods of turmoil, correlations tend to increase thus reducing the benefits of diversification. Portfolio management today emerges as a dynamic process, which continues to evolve at a rapid pace. The purpose of Portfolio Theory and Management is to take readers from the foundations of portfolio management with the contributions of financial pioneers up to the latest trends emerging within the context of special topics. The book includes discussions of portfolio theory and management both before and after the 2007-2008 financial crisis. This volume provides a critical reflection of what worked and what did not work viewed from the perspective of the recent financial crisis. Further, the book is not restricted to the U.S. market but takes a more global focus by highlighting cross-country differences and practices. This 30-chapter book consists of seven sections. These chapters are: (1) portfolio theory and asset pricing, (2) the investment policy statement and fiduciary duties, (3) asset allocation and portfolio construction, (4) risk management, (V) portfolio execution, monitoring, and rebalancing, (6) evaluating and reporting portfolio performance, and (7) special topics.
