Canonical vine copulas in the context of modern portfolio management: Are they worth it?

Rand Kwong Yew Low, Jamie Alcock, Robert Faff and Timothy Brailsford

Journal of Banking & Finance, 2013, vol. 37, issue 8, 3085-3099

Abstract: In the context of managing downside correlations, we examine the use of multi-dimensional elliptical and asymmetric copula models to forecast returns for portfolios with 3–12 constituents. Our analysis assumes that investors have no short-sales constraints and a utility function characterized by the minimization of Conditional Value-at-Risk (CVaR). We examine the efficient frontiers produced by each model and focus on comparing two methods for incorporating scalable asymmetric dependence structures across asset returns using the Archimedean Clayton copula in an out-of-sample, long-run multi-period setting. For portfolios of higher dimensions, we find that modeling asymmetries within the marginals and the dependence structure with the Clayton canonical vine copula (CVC) consistently produces the highest-ranked outcomes across a range of statistical and economic metrics when compared to other models incorporating elliptical or symmetric dependence structures. Accordingly, we conclude that CVC copulas are ‘worth it’ when managing larger portfolios.

Keywords: Vine copula; Clayton copula; Asymmetric dependence; Portfolio management; Canonical vine; Conditional value-at-risk (search for similar items in EconPapers)
JEL-codes: C16 G11 (search for similar items in EconPapers)
Date: 2013
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (74)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jbfina:v:37:y:2013:i:8:p:3085-3099

DOI: 10.1016/j.jbankfin.2013.02.036

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