Large-Scale Loan Portfolio Selection

Justin A. Sirignano (), Gerry Tsoukalas () and Kay Giesecke ()
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Justin A. Sirignano: Department of Industrial and Enterprise Systems Engineering, University of Illinois at Urbana–Champaign, Urbana, Illinois 61801
Gerry Tsoukalas: The Wharton School, University of Pennsylvania, Philadelphia, Pennsylvania 19104
Kay Giesecke: Department of Management Science and Engineering, Stanford University, Stanford, California 94305

Operations Research, 2016, vol. 64, issue 6, 1239-1255

Abstract: We consider the problem of optimally selecting a large portfolio of risky loans, such as mortgages, credit cards, auto loans, student loans, or business loans. Examples include loan portfolios held by financial institutions and fixed-income investors as well as pools of loans backing mortgage- and asset-backed securities. The size of these portfolios can range from the thousands to even hundreds of thousands. Optimal portfolio selection requires the solution of a high-dimensional nonlinear integer program and is extremely computationally challenging. For larger portfolios, this optimization problem is intractable. We propose an approximate optimization approach that yields an asymptotically optimal portfolio for a broad class of data-driven models of loan delinquency and prepayment. We prove that the asymptotically optimal portfolio converges to the optimal portfolio as the portfolio size grows large. Numerical case studies using actual loan data demonstrate its computational efficiency. The asymptotically optimal portfolio’s computational cost does not increase with the size of the portfolio. It is typically many orders of magnitude faster than nonlinear integer program solvers while also being highly accurate even for moderate-sized portfolios.

Keywords: loan portfolio; approximate optimization; weak convergence; asymptotic approximation (search for similar items in EconPapers)
Date: 2016
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Citations: View citations in EconPapers (12)

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