TY - JOUR
T1 - Rational explanation for rule-of-thumb practices in asset allocation
AU - Simaan, Majeed
AU - Simaan, Yusif
N1 - Publisher Copyright:
© 2019, © 2019 Informa UK Limited, trading as Taylor & Francis Group.
PY - 2019/12/2
Y1 - 2019/12/2
N2 - Naive asset allocation and other ad-hoc techniques are commonly practiced by fund managers in the industry. Such strategies, however, are deemed mean-variance (MV) sub-optimal according to modern portfolio theory. Nonetheless, taking estimation risk into considerations, such practices are consistent with rational theory. In practice, the potential advantage from MV optimization is weighed against the severity of estimation risk. This paper proposes a set of decision rules to determine the optimal fund under estimation risk. A mixed strategy that deploys the proposed decision rules implies a convex improvement in terms of out-of-sample Sharpe-ratio.
AB - Naive asset allocation and other ad-hoc techniques are commonly practiced by fund managers in the industry. Such strategies, however, are deemed mean-variance (MV) sub-optimal according to modern portfolio theory. Nonetheless, taking estimation risk into considerations, such practices are consistent with rational theory. In practice, the potential advantage from MV optimization is weighed against the severity of estimation risk. This paper proposes a set of decision rules to determine the optimal fund under estimation risk. A mixed strategy that deploys the proposed decision rules implies a convex improvement in terms of out-of-sample Sharpe-ratio.
KW - Estimation risk
KW - Investment
KW - Naive allocation
KW - Portfolio theory
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U2 - 10.1080/14697688.2019.1622767
DO - 10.1080/14697688.2019.1622767
M3 - Article
AN - SCOPUS:85068655653
SN - 1469-7688
VL - 19
SP - 2095
EP - 2109
JO - Quantitative Finance
JF - Quantitative Finance
IS - 12
ER -