IDEAS home Printed from https://ideas.repec.org/p/tin/wpaper/20140134.html
   My bibliography  Save this paper

European Market Portfolio Diversification Strategies across the GFC

Author

Listed:
  • David E. Allen

    (University of Sydney, University of South Australia, Australia)

  • Michael McAleer

    (National Tsing Hua University, Taiwan, Erasmus University Rotterdam, the Netherlands, Complutense University of Madrid, Spain)

  • Robert J. Powell

    (Edith Cowan University, Australia)

  • Abhay K. Singh

    (Edith Cowan University, Australia)

Abstract

This paper features an analysis of the effectiveness of a range of portfolio diversification strategies as applied to a set of daily arithmetically compounded returns on a set of ten market indices representing the major European markets for a nine year period from the beginning of 2005 to the end of 2013. The sample period, which incorporates the periods of both the Global Financial Crisis (GFC) and subsequent European Debt Crisis (EDC), is challenging one for the application of portfolio investment strategies. The analysis is undertaken via the examination of multiple investment strategies and a variety of hold-out periods and back-tests. We commence by using four two year estimation periods and subsequent one year investment hold out period, to analyse a naive 1/N diversification strategy, and to contrast its effectiveness with Markowitz mean variance analysis with positive weights. Markowitz optimisation is then compared with various down-side investment opimisation strategies. We begin by comparing Markowitz with CVaR, and then proceed to evaluate the relative effectiveness of Markowitz with various draw-down strategies, utilising a series of backtests. Our results suggest that none of the more sophisticated optimisation strategies appear to dominate naive diversification.

Suggested Citation

  • David E. Allen & Michael McAleer & Robert J. Powell & Abhay K. Singh, 2014. "European Market Portfolio Diversification Strategies across the GFC," Tinbergen Institute Discussion Papers 14-134/III, Tinbergen Institute.
    • Handle: RePEc:tin:wpaper:20140134
    as

    Download full text from publisher

    File URL: https://papers.tinbergen.nl/14134.pdf
    Download Restriction: no
    ---><---

    Other versions of this item:

    References listed on IDEAS

    as
    1. Victor DeMiguel & Lorenzo Garlappi & Raman Uppal, 2009. "Optimal Versus Naive Diversification: How Inefficient is the 1-N Portfolio Strategy?," The Review of Financial Studies, Society for Financial Studies, vol. 22(5), pages 1915-1953, May.
    2. Alexei Chekhlov & Stanislav Uryasev & Michael Zabarankin, 2005. "Drawdown Measure In Portfolio Optimization," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 8(01), pages 13-58.
    3. Louis K.C. Chan & Jason Karceski & Josef Lakonishok, 1999. "On Portfolio Optimization: Forecasting Covariances and Choosing the Risk Model," NBER Working Papers 7039, National Bureau of Economic Research, Inc.
    4. Ravi Jagannathan & Tongshu Ma, 2003. "Risk Reduction in Large Portfolios: Why Imposing the Wrong Constraints Helps," Journal of Finance, American Finance Association, vol. 58(4), pages 1651-1683, August.
    5. Barry, Christopher B, 1974. "Portfolio Analysis under Uncertain Means, Variances, and Covariances," Journal of Finance, American Finance Association, vol. 29(2), pages 515-522, May.
    6. Harry Markowitz, 1952. "Portfolio Selection," Journal of Finance, American Finance Association, vol. 7(1), pages 77-91, March.
    7. Pastor, Lubos & Stambaugh, Robert F., 2000. "Comparing asset pricing models: an investment perspective," Journal of Financial Economics, Elsevier, vol. 56(3), pages 335-381, June.
    8. repec:bla:jfinan:v:58:y:2003:i:4:p:1651-1684 is not listed on IDEAS
    9. Ľuboš Pástor, 2000. "Portfolio Selection and Asset Pricing Models," Journal of Finance, American Finance Association, vol. 55(1), pages 179-223, February.
    10. Rockafellar, R. Tyrrell & Uryasev, Stan & Zabarankin, M., 2007. "Equilibrium with investors using a diversity of deviation measures," Journal of Banking & Finance, Elsevier, vol. 31(11), pages 3251-3268, November.
    11. Markowitz, Harry M, 1991. "Foundations of Portfolio Theory," Journal of Finance, American Finance Association, vol. 46(2), pages 469-477, June.
    12. Zabarankin, Michael & Pavlikov, Konstantin & Uryasev, Stan, 2014. "Capital Asset Pricing Model (CAPM) with drawdown measure," European Journal of Operational Research, Elsevier, vol. 234(2), pages 508-517.
    13. A. Chekhlov & S. Uryasev & M. Zabarankin, 2004. "Portfolio Optimization With Drawdown Constraints," World Scientific Book Chapters, in: Panos M Pardalos & Athanasios Migdalas & George Baourakis (ed.), Supply Chain And Finance, chapter 13, pages 209-228, World Scientific Publishing Co. Pte. Ltd..
    14. Jorion, Philippe, 1985. "International Portfolio Diversification with Estimation Risk," The Journal of Business, University of Chicago Press, vol. 58(3), pages 259-278, July.
    15. Jorion, Philippe, 1986. "Bayes-Stein Estimation for Portfolio Analysis," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 21(3), pages 279-292, September.
    16. William F. Sharpe, 1964. "Capital Asset Prices: A Theory Of Market Equilibrium Under Conditions Of Risk," Journal of Finance, American Finance Association, vol. 19(3), pages 425-442, September.
    17. Rockafellar, R. Tyrrell & Uryasev, Stan & Zabarankin, Michael, 2006. "Master funds in portfolio analysis with general deviation measures," Journal of Banking & Finance, Elsevier, vol. 30(2), pages 743-778, February.
    18. Chan, Louis K C & Karceski, Jason & Lakonishok, Josef, 1999. "On Portfolio Optimization: Forecasting Covariances and Choosing the Risk Model," The Review of Financial Studies, Society for Financial Studies, vol. 12(5), pages 937-974.
    19. Best, Michael J. & Grauer, Robert R., 1992. "Positively Weighted Minimum-Variance Portfolios and the Structure of Asset Expected Returns," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 27(4), pages 513-537, December.
    20. Rockafellar, R. Tyrrell & Uryasev, Stanislav, 2002. "Conditional value-at-risk for general loss distributions," Journal of Banking & Finance, Elsevier, vol. 26(7), pages 1443-1471, July.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. David E. Allen & Michael McAleer & Shelton Peiris & Abhay K. Singh, 2014. "Hedge Fund Portfolio Diversification Strategies across the GFC," Tinbergen Institute Discussion Papers 14-151/III, Tinbergen Institute.
    2. Víctor Adame-García & Fernando Fernández-Rodríguez & Simón Sosvilla-Rivero, 2017. "“Resolution of optimization problems and construction of efficient portfolios: An application to the Euro Stoxx 50 index"," IREA Working Papers 201702, University of Barcelona, Research Institute of Applied Economics, revised Feb 2017.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. David E. Allen & Michael McAleer & Robert J. Powell & Abhay K. Singh, 2015. "Down-side Risk Metrics as Portfolio Diversification Strategies across the GFC," Documentos de Trabajo del ICAE 2015-19, Universidad Complutense de Madrid, Facultad de Ciencias Económicas y Empresariales, Instituto Complutense de Análisis Económico.
    2. David E. Allen & Michael McAleer & Shelton Peiris & Abhay K. Singh, 2014. "Hedge Fund Portfolio Diversification Strategies across the GFC," Tinbergen Institute Discussion Papers 14-151/III, Tinbergen Institute.
    3. David E. Allen & Michael McAleer & Robert J. Powell & Abhay K. Singh, 2016. "Down-Side Risk Metrics as Portfolio Diversification Strategies across the Global Financial Crisis," JRFM, MDPI, vol. 9(2), pages 1-18, June.
    4. Yan, Cheng & Zhang, Huazhu, 2017. "Mean-variance versus naïve diversification: The role of mispricing," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 48(C), pages 61-81.
    5. Hsu, Po-Hsuan & Han, Qiheng & Wu, Wensheng & Cao, Zhiguang, 2018. "Asset allocation strategies, data snooping, and the 1 / N rule," Journal of Banking & Finance, Elsevier, vol. 97(C), pages 257-269.
    6. Penaranda, Francisco, 2007. "Portfolio choice beyond the traditional approach," LSE Research Online Documents on Economics 24481, London School of Economics and Political Science, LSE Library.
    7. Wolff, Dominik & Bessler, Wolfgang & Opfer, Heiko, 2012. "Multi-Asset Portfolio Optimization and Out-of-Sample Performance: An Evaluation of Black-Litterman, Mean Variance and Naïve Diversification Approaches," VfS Annual Conference 2012 (Goettingen): New Approaches and Challenges for the Labor Market of the 21st Century 62020, Verein für Socialpolitik / German Economic Association.
    8. Loriana Pelizzon & Massimiliano Caporin, 2012. "Market volatility, optimal portfolios and naive asset allocations," Working Papers 2012_08, Department of Economics, University of Venice "Ca' Foscari".
    9. Víctor M. Adame-García & Fernando Fernández-Rodríguez & Simón Sosvilla-Rivero, "undated". "Portfolios in the Ibex 35 index: Alternative methods to the traditional framework, a comparative with the naive diversification in a pre- and post- crisis context," Documentos de Trabajo del ICAE 2015-07, Universidad Complutense de Madrid, Facultad de Ciencias Económicas y Empresariales, Instituto Complutense de Análisis Económico, revised Jun 2015.
    10. Víctor Adame-García & Fernando Fernández-Rodríguez & Simón Sosvilla-Rivero, 2017. "“Resolution of optimization problems and construction of efficient portfolios: An application to the Euro Stoxx 50 index"," IREA Working Papers 201702, University of Barcelona, Research Institute of Applied Economics, revised Feb 2017.
    11. Behr, Patrick & Guettler, Andre & Truebenbach, Fabian, 2012. "Using industry momentum to improve portfolio performance," Journal of Banking & Finance, Elsevier, vol. 36(5), pages 1414-1423.
    12. Mishra, Anil V., 2015. "Measures of equity home bias puzzle," Journal of Empirical Finance, Elsevier, vol. 34(C), pages 293-312.
    13. Lorenzo Garlappi & Raman Uppal & Tan Wang, 2007. "Portfolio Selection with Parameter and Model Uncertainty: A Multi-Prior Approach," The Review of Financial Studies, Society for Financial Studies, vol. 20(1), pages 41-81, January.
    14. Kellerer, Belinda, 2019. "Portfolio Optimization and Ambiguity Aversion," Junior Management Science (JUMS), Junior Management Science e. V., vol. 4(3), pages 305-338.
    15. DeMiguel, Victor & Martin-Utrera, Alberto & Nogales, Francisco J., 2013. "Size matters: Optimal calibration of shrinkage estimators for portfolio selection," Journal of Banking & Finance, Elsevier, vol. 37(8), pages 3018-3034.
    16. Mishra, Anil V., 2016. "Foreign bias in Australian-domiciled mutual fund holdings," Pacific-Basin Finance Journal, Elsevier, vol. 39(C), pages 101-123.
    17. Fletcher, Jonathan, 2011. "Do optimal diversification strategies outperform the 1/N strategy in U.K. stock returns?," International Review of Financial Analysis, Elsevier, vol. 20(5), pages 375-385.
    18. Grechuk, Bogdan & Zabarankin, Michael, 2018. "Direct data-based decision making under uncertainty," European Journal of Operational Research, Elsevier, vol. 267(1), pages 200-211.
    19. Johannes Bock, 2018. "An updated review of (sub-)optimal diversification models," Papers 1811.08255, arXiv.org.
    20. Anil V. Mishra, 2017. "Foreign bias in Australia's international equity holdings," Review of Financial Economics, John Wiley & Sons, vol. 33(1), pages 41-54, April.

    More about this item

    Keywords

    Portfolio Diversification; Markowitz Analaysis; Downside Risk; CVaR; Draw-down;
    All these keywords.

    JEL classification:

    • C61 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Optimization Techniques; Programming Models; Dynamic Analysis
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:tin:wpaper:20140134. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Tinbergen Office +31 (0)10-4088900 (email available below). General contact details of provider: https://edirc.repec.org/data/tinbenl.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.