Un-diversifying during crises: Is it a good idea?

Margherita Giuzio and Sandra Paterlini

Computational Management Science, 2019, vol. 16, issue 3, No 3, 432 pages

Abstract: Abstract High levels of correlation among financial assets and extreme losses are typical during crises. In such situations, investing in few assets might be a better choice than holding diversified portfolios. We show that constraining the sparse $$\ell _q$$ ℓ q -norm of portfolio weights automatically controls diversification and selects portfolios with a small number of active weights and low risk, in presence of high correlation and volatility. We highlight the diversification relationships between the minimum variance portfolio, risk budgeting strategies and diversification-constrained portfolios. Finally, we show empirically that the $$\ell _q$$ ℓ q -strategy can successfully cope with bear markets by shrinking portfolio weights and total amount of shorting.

Keywords: Diversification; Regularization methods; Minimum variance; Sparsity; 91G10; 91G70; 91-08 (search for similar items in EconPapers)
Date: 2019
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Citations: View citations in EconPapers (4)

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Working Paper: Undiversifying during Crises: Is It a Good Idea? (2016)
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DOI: 10.1007/s10287-018-0340-y

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