Changing Correlation and Equity Portfolio Diversification Failure for Linear Factor Models during Market Declines*

Alessio Sancetta and Steve E. Satchell

Applied Mathematical Finance, 2007, vol. 14, issue 3, 227-242

Abstract: The paper considers a linear factor model (LFM) to study the behaviour of the correlation coefficient between various stock returns during a downturn. Changing correlation is related to the tail distribution of the driving factors, which is the market for Sharpe's one-factor model. General classes of distribution functions are considered and asymptotic conditions found on the tails of the distribution, which determine whether diversification will succeed or fail during a market decline.

Keywords: Asymptotic Expansion; Factor Model; Portfolio Diversification; Truncated Variance (search for similar items in EconPapers)
Date: 2007
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Citations: View citations in EconPapers (5)

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DOI: 10.1080/13504860600858279

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