The benefits of improved covariance estimation
H.J. Turtle and
Journal of Empirical Finance, 2016, vol. 37, issue C, 233-246
Recent advances in covariance estimation can improve portfolio formation strategies aimed at avoiding high risk market environments. We consider a covariance specification with information variables that include both historical firm specific variables and an ex ante measure of macro volatility (CBOE VIX). We compare the in-sample and predictive out-of-sample performance of the information instrument model relative to three alternative approaches. Out-of-sample, a risk-on, risk-off strategy that optimally weights the global minimum variance (GMV) portfolio and a riskless asset shows the information instrument model provides effective exit signals during the financial crisis and other high risk environments.
Keywords: Conditional covariances; Information instruments; Portfolio performance; Mean–variance analysis (search for similar items in EconPapers)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:empfin:v:37:y:2016:i:c:p:233-246
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