Better portfolios with higher moments

Jarrod Wilcox ()
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Jarrod Wilcox: Wealthmate, Inc.

Journal of Asset Management, 2020, vol. 21, issue 7, No 2, 569-580

Abstract: Abstract A toolset beyond mean–variance portfolio optimization is appropriate for those instances where higher return moments might need to be taken into account, either for individual decisions or for pricing studies. Maximizing expected log surplus utility is superior for compounding returns in excess of financial obligations. Here, it is matched with a more flexible scenario representation of the investor’s joint probability distribution of returns and with an agnostic optimization engine. We show simple examples based on extrapolating historical stock and bond returns and then extended using hypothetical option prices. We clarify how Black–Scholes implied volatility anomalies can arise in a portfolio context.

Keywords: Asset allocation; Portfolio optimization; Higher moments; Skewness; Kurtosis; Scenarios (search for similar items in EconPapers)
Date: 2020
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DOI: 10.1057/s41260-020-00170-5

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