Economy – Quantitative Finance – Portfolio Management
Scientific paper
2009-11-09
Economy
Quantitative Finance
Portfolio Management
Scientific paper
The optimization of large portfolios displays an inherent instability to estimation error. This poses a fundamental problem, because solutions that are not stable under sample fluctuations may look optimal for a given sample, but are, in effect, very far from optimal with respect to the average risk. In this paper, we approach the problem from the point of view of statistical learning theory. The occurrence of the instability is intimately related to over-fitting which can be avoided using known regularization methods. We show how regularized portfolio optimization with the expected shortfall as a risk measure is related to support vector regression. The budget constraint dictates a modification. We present the resulting optimization problem and discuss the solution. The L2 norm of the weight vector is used as a regularizer, which corresponds to a diversification "pressure". This means that diversification, besides counteracting downward fluctuations in some assets by upward fluctuations in others, is also crucial because it improves the stability of the solution. The approach we provide here allows for the simultaneous treatment of optimization and diversification in one framework that enables the investor to trade-off between the two, depending on the size of the available data set.
Kondor Imre
Still Susanne
No associations
LandOfFree
Regularizing Portfolio Optimization does not yet have a rating. At this time, there are no reviews or comments for this scientific paper.
If you have personal experience with Regularizing Portfolio Optimization, we encourage you to share that experience with our LandOfFree.com community. Your opinion is very important and Regularizing Portfolio Optimization will most certainly appreciate the feedback.
Profile ID: LFWR-SCP-O-660400