ROBUST ASSET ALLOCATION FOR LONG-TERM TARGET-BASED INVESTING

P. A. Forsyth () and K. R. Vetzal
Additional contact information
P. A. Forsyth: David R. Cheriton School of Computer Science, University of Waterloo, 200 University Avenue West, Waterloo ON, N2L 3G1, Canada
K. R. Vetzal: School of Accounting and Finance, University of Waterloo, 200 University Avenue West, Waterloo ON, N2L 3G1, Canada

International Journal of Theoretical and Applied Finance (IJTAF), 2017, vol. 20, issue 03, 1-32

Abstract: This paper explores dynamic mean-variance (MV) asset allocation over long horizons. This is equivalent to target-based investing with a quadratic loss penalty for deviations from the target level of terminal wealth. We provide a number of illustrative examples in a setting with a risky stock index and a risk-free asset. Our underlying model is very simple: the value of the risky index is assumed to follow a geometric Brownian motion diffusion process and the risk-free interest rate is specified to be constant. We impose realistic constraints on the leverage ratio and trading frequency. In many of our examples, the MV optimal strategy has a standard deviation of terminal wealth less than half that of a constant proportion strategy which has the same expected value of terminal wealth, while the probability of shortfall is reduced by a factor of two to three. We investigate the robustness of the model through resampling experiments using historical data dating back to 1926. These experiments also show much lower standard deviation and shortfall probability for the MV optimal strategy relative to a constant proportion strategy with approximately the same expected terminal wealth.

Keywords: Long-term investment; mean-variance optimal; asset allocation; target-based investing; quadratic loss (search for similar items in EconPapers)
Date: 2017
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (4)

Downloads: (external link)
http://www.worldscientific.com/doi/abs/10.1142/S0219024917500170
Access to full text is restricted to subscribers

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:wsi:ijtafx:v:20:y:2017:i:03:n:s0219024917500170

Ordering information: This journal article can be ordered from

DOI: 10.1142/S0219024917500170

Access Statistics for this article

International Journal of Theoretical and Applied Finance (IJTAF) is currently edited by L P Hughston

More articles in International Journal of Theoretical and Applied Finance (IJTAF) from World Scientific Publishing Co. Pte. Ltd.
Bibliographic data for series maintained by Tai Tone Lim ().