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Active PortofolioManagement in the Presence of Regime Switching: What Are the Benefits of Defensive Asset Allocation Strategies If the Investor Faces Bear Markets?

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  • Klaus Grobys

Abstract

This paper studies the asset allocation decision in the presence of regime switching in stock market returns. The analysis is based on two stock indices: DJI 30 and OMX 30. The two-step optimization procedure employed points towards the usage of defensive asset allocation strategies under bear markets and ordinary index tracking strategies under bull markets. The out-of-sample experiments strengthen the performance of active strategies that distinguish between different regimes. Moreover, the Sharpe ratios of portfolios based on such strategies are higher than the ones of ordinary index tracking based portfolios.

Suggested Citation

  • Klaus Grobys, 2012. "Active PortofolioManagement in the Presence of Regime Switching: What Are the Benefits of Defensive Asset Allocation Strategies If the Investor Faces Bear Markets?," The Review of Finance and Banking, Academia de Studii Economice din Bucuresti, Romania / Facultatea de Finante, Asigurari, Banci si Burse de Valori / Catedra de Finante, vol. 4(1), pages 015-031, June.
    • Handle: RePEc:rfb:journl:v:04:y:2012:i:1:p:015-031
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    2. Wasim Ahmad & N. Bhanumurthy & Sanjay Sehgal, 2015. "Regime dependent dynamics and European stock markets: Is asset allocation really possible?," Empirica, Springer;Austrian Institute for Economic Research;Austrian Economic Association, vol. 42(1), pages 77-107, February.

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