Forward-looking robust portfolio selection

Sara Cecchetti () and Laura Sigalotti ()
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Sara Cecchetti: Bank of Italy
Laura Sigalotti: Bank of Italy

No 913, Temi di discussione (Economic working papers) from Bank of Italy, Economic Research and International Relations Area

Abstract: In this paper we develop a portfolio optimization strategy based on the extraction of option-implied distributions and the application of robust asset allocation. We compute the option-implied probability density functions of the constituents of the Euro Stoxx 50 Index. To obtain the corresponding risk-adjusted densities, we estimate the risk aversion coefficient through a Berkowitz likelihood test. The correlation structure among the stocks is computed via an ad hoc technique, which provides a correction term for the historical correlations. We implement a robust portfolio construction, in order to incorporate the uncertainty about the estimation error for the expected returns in the optimization procedure.

Keywords: portfolio allocation; robust optimization; implied correlation; stock options (search for similar items in EconPapers)
JEL-codes: C02 C13 G11 (search for similar items in EconPapers)
Date: 2013-06
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Citations: View citations in EconPapers (3)

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