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An Out-of-Sample Evaluation of Dynamic Portfolio Strategies

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  • Chunhua Lan

Abstract

This article evaluates out-of-sample portfolio performance for a real-time investor who can exploit time variation in the conditional mean and volatility of stock returns in optimizing a multiperiod portfolio choice problem. With the presence of parameter uncertainty, our out-of-sample analysis shows that ignoring time variation in the first two return moments leads to significant utility costs of at least 1.97% of annualized certainty equivalent return. Accounting for the time-varying risk premium plays a more important role than considering time-varying volatility in improving portfolio performance. Interestingly, behaving myopically or ignoring the hedge against changes in future investment opportunities can lead to small out-of-sample utility losses or even utility gains.

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  • Chunhua Lan, 2015. "An Out-of-Sample Evaluation of Dynamic Portfolio Strategies," Review of Finance, European Finance Association, vol. 19(6), pages 2359-2399.
    • Handle: RePEc:oup:revfin:v:19:y:2015:i:6:p:2359-2399.
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    File URL: http://hdl.handle.net/10.1093/rof/rfu052
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    1. Andersen, Torben G. & Bollerslev, Tim & Christoffersen, Peter F. & Diebold, Francis X., 2006. "Volatility and Correlation Forecasting," Handbook of Economic Forecasting, in: G. Elliott & C. Granger & A. Timmermann (ed.), Handbook of Economic Forecasting, edition 1, volume 1, chapter 15, pages 777-878, Elsevier.
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    Cited by:

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    2. Laborda, Ricardo & Olmo, Jose, 2017. "Optimal asset allocation for strategic investors," International Journal of Forecasting, Elsevier, vol. 33(4), pages 970-987.
    3. Castañeda, Pablo & Reus, Lorenzo, 2019. "Suboptimal investment behavior and welfare costs: A simulation based approach," Finance Research Letters, Elsevier, vol. 30(C), pages 170-180.
    4. Michaelides, Alexander & Zhang, Yuxin, 2022. "Life-cycle portfolio choice with imperfect predictors," Journal of Banking & Finance, Elsevier, vol. 135(C).
    5. Fischer, Marcel & Gallmeyer, Michael F., 2016. "Heuristic portfolio trading rules with capital gain taxes," Journal of Financial Economics, Elsevier, vol. 119(3), pages 611-625.
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    8. Zhou, Zhongbao & Xiao, Helu & Jin, Qianying & Liu, Wenbin, 2018. "DEA frontier improvement and portfolio rebalancing: An application of China mutual funds on considering sustainability information disclosure," European Journal of Operational Research, Elsevier, vol. 269(1), pages 111-131.

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