Shrinkage = Factor Model

Zura Kakushadze

Papers from arXiv.org

Abstract: Shrunk sample covariance matrix is a factor model of a special form combining some (typically, style) risk factor(s) and principal components with a (block-)diagonal factor covariance matrix. As such, shrinkage, which essentially inherits out-of-sample instabilities of the sample covariance matrix, is not an alternative to multifactor risk models but one out of myriad possible regularization schemes. We give an example of a scheme designed to be less prone to said instabilities. We contextualize this within multifactor models.

Date: 2015-11, Revised 2015-12
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Citations: View citations in EconPapers (2)

Published in Journal of Asset Management 17(2) (2016) 69-72, Invited Editorial

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Persistent link: https://EconPapers.repec.org/RePEc:arx:papers:1511.04764

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