Optimal asset allocation for commodity sovereign wealth funds

Alfonso A. Irarrazabal, Lin Ma and Juan Parra-Alvarez

Quantitative Finance, 2023, vol. 23, issue 3, 471-495

Abstract: This paper studies the dynamic asset allocation problem faced by an infinitively lived commodity-based sovereign wealth fund under incomplete markets. Assuming that the fund receives a non-tradable stream of commodity revenues until a predetermined date, the optimal consumption and investment strategies are state and time-dependent. Using data from the Norwegian Petroleum Fund, we find that the optimal demand for equity should decrease gradually from 60% to 40% over the next 60 years. However, the solution is particularly sensitive to the correlation between oil and stock price changes. We also estimate wealth-equivalent welfare losses, relative to the optimal rule, when following alternative suboptimal investment rules.

Date: 2023
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Working Paper: Optimal Asset Allocation for Commodity Sovereign Wealth Funds (2020)
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DOI: 10.1080/14697688.2022.2158918

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