Resolution of optimization problems and construction of efficient portfolios: An application to the Euro Stoxx 50 index

Víctor Adame-García (), Fernando Fernández-Rodríguez () and Simon Sosvilla-Rivero
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Víctor Adame-García: Universidad Complutense de Madrid, Campus de Somosaguas, 28223 Madrid, Spain.
Fernando Fernández-Rodríguez: Universidad de Las Palmas de Gran Canaria, Campus de Tafira, 35017 Las Palmas de Gran Canaria, Spain.

No 201702, IREA Working Papers from University of Barcelona, Research Institute of Applied Economics

Abstract: We assess the effectiveness of various portfolio optimization strategies (only long allocations) applied to the components of the Euro Stoxx 50 index during the period 2002-2015. The sample under study contemplates episodes of high volatility and instability in financial markets, such as the Global Financial Crisis and the European Debt Crisis. This implies a real challenge in portfolio optimization strategies, since all the methodologies used are restricted to the assignment of positive weights. We use the daily returns for the asset allocation with a three year estimation window, keeping the assets in portfolio for one year.In the context of strategies with short-selling constraints, we contribute to the debate on whether naive diversification proves to be an effective alternative for the construction of the portfolio, as opposed to the portfolio optimization models. To that end, we analyse the out-of-sample performance of 16 strategies for the selection of assets and weights in the main stock index of the euro area. Our results suggest that a large number of strategies outperform both the naive strategy and the Euro Stoxx 50 index in terms of the profitability and Sharpe's ratio. Furthermore, the portfolio strategy based on the maximization of the diversification ratio provides the highest return and the classical strategy of mean-variance renders the highest Sharpe ratio, which is statistically different from the Euro Stoxx 50 index in the period under study.

Keywords: Optimization problems; portfolio choice; investment decisions; asset allocation; econometrics; minimum-variance portfolios; robust statistics; out-of-sample performance. JEL classification:C14, C61, G11. (search for similar items in EconPapers)
Pages: 43 pages
Date: 2017-02, Revised 2017-02
New Economics Papers: this item is included in nep-rmg
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