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The Timing Of Portfolio Adjustments: A Regime-Switching Approach

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  • GUOBIN FAN

    (School of Management and Economics, University of Electronic Science and Technology of China, Chengdu, 610054, China)

  • YONG ZENG

    (School of Management and Economics, University of Electronic Science and Technology of China, Chengdu, 610054, China)

Abstract

The fact that the relationships among the returns of financial assets tend to be nonlinear and time-varying has important implications for asset allocation. To describe these two features, this paper first combines a copula function with the Markov switching technique to model the dependence structure across assets and then builds on this Markov Switching Copula model to present a procedure for the timing of portfolio adjustments. Our empirical evidence confirms that the dependence structure between high-risk and low-risk stocks in the Shanghai and Shenzhen markets is not static but switches between regimes over the course of the sample horizon considered in this paper. More importantly, as a result of such regime-switching characteristics of their dependence structure, our analysis of the out-of-sample asset allocation performance indicates that employing the procedure proposed in this paper to identify regime changes and decide when to adjust portfolio weights allows investors with the Constant Relative Risk Aversion utility to achieve both higher realized returns and higher certainty equivalent rate of returns than does the use of strategies based on static models.

Suggested Citation

  • Guobin Fan & Yong Zeng, 2012. "The Timing Of Portfolio Adjustments: A Regime-Switching Approach," International Journal of Information Technology & Decision Making (IJITDM), World Scientific Publishing Co. Pte. Ltd., vol. 11(05), pages 909-933.
    • Handle: RePEc:wsi:ijitdm:v:11:y:2012:i:05:n:s0219622012500265
    DOI: 10.1142/S0219622012500265
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    References listed on IDEAS

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    1. Taimur Baig & Ilan Goldfajn, 1999. "Financial Market Contagion in the Asian Crisis," IMF Staff Papers, Palgrave Macmillan, vol. 46(2), pages 1-3.
    2. Edoardo Otranto, 2010. "Asset allocation using flexible dynamic correlation models with regime switching," Quantitative Finance, Taylor & Francis Journals, vol. 10(3), pages 325-338.
    3. Calvo, Sara & Reinhart, Carmen, 1996. "Capital flows to Latin America : Is there evidence of contagion effects?," Policy Research Working Paper Series 1619, The World Bank.
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    Cited by:

    1. Michael C. Nwogugu, 2020. "Decision-Making, Sub-Additive Recursive "Matching" Noise And Biases In Risk-Weighted Stock/Bond Index Calculation Methods In Incomplete Markets With Partially Observable Multi-Attribute Pref," Papers 2005.01708, arXiv.org.
    2. Zhu, Pengfei & Tang, Yong & Wei, Yu & Dai, Yimin, 2019. "Portfolio strategy of International crude oil markets: A study based on multiwavelet denoising-integration MF-DCCA method," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 535(C).

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