A basket half full: sparse portfolios

Ekaterina Seregina

Quantitative Finance, 2023, vol. 23, issue 12, 1833-1852

Abstract: The existing approaches to sparse wealth allocations (1) are limited to low-dimensional setup when the number of assets is less than the sample size; (2) lack theoretical analysis of sparse wealth allocations and their impact on portfolio exposure; (3) are suboptimal due to the bias induced by an $ \ell _1 $ ℓ1-penalty. We address these shortcomings and develop an approach to construct sparse portfolios in high dimensions. Our contribution is twofold: from the theoretical perspective, we establish the oracle bounds of sparse weight estimators and provide guidance regarding their distribution. From the empirical perspective, we examine the merit of sparse portfolios during different market scenarios. We find that in contrast to non-sparse counterparts, our strategy is robust to recessions and can be used as a hedging vehicle during such times.

Date: 2023
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DOI: 10.1080/14697688.2023.2269997

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