Rebalancing and Diversification Return â€“ Evidence from the German Stock Market
Journal of Finance and Investment Analysis, 2017, vol. 6, issue 2, 1
The aim of this study is on the one hand to contribute to more clarification aboutÂ the so-called diversification return especially related to portfolio rebalancing. OnÂ the other hand, because of the inconclusive theoretical results, this paper wants toÂ ascertain through empirical tests whether rebalancing a portfolio is likely to beÂ beneficial or not for an equally weighted German stock portfolio. It is shown thatÂ diversification returns tend to rise with an increasing rebalancing frequency in allÂ considered periods whereas the variance reduction benefit hardly changes. NotÂ rebalancing has the highest impact on the buy and hold (B&H) portfolio in allÂ periods. However, the rebalancing return defined as the difference between theÂ average geometric return of a rebalanced portfolio and the B&H portfolioÂ sometimes turns out to be positive and sometimes negative. This suggests thatÂ rebalancing in the periods considered in this analysis would not always have beenÂ reasonable. Removing those stocks from the portfolio that follow a long-termÂ trend and therefore have relatively high or low final weights in the B&H portfolio,Â leads to a revised portfolio where the assetsâ€™ returns are more mean-reverting andÂ which generates more positive rebalancing returns. However, mean-revertingÂ returns are often associated with negative autocorrelations of returns, butÂ autocorrelations over the whole period turn out not to be consistent for differentÂ time lags. Finally, the study shows no evidence that rebalancing generally leads toÂ better risk adjusted performance or better portfolio diversification.JEL classification number: G11Keywords: portfolio rebalancing, diversification return, rebalancing return, buyand hold, autocorrelation, volatility return, diversification ratio.
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