Robust Portfolio Choice with Ambiguity and Learning About Return Predictability

47 Pages Posted: 9 Jun 2011 Last revised: 26 Apr 2012

See all articles by Nicole Branger

Nicole Branger

University of Muenster - Finance Center Muenster

Linda Sandris Larsen

Copenhagen Business School

Claus Munk

Copenhagen Business School

Date Written: April 26, 2012

Abstract

We analyze the optimal stock-bond portfolio under both learning and ambiguity aversion. Stock returns are predictable by an observable and an unobservable predictor, and the investor has to learn about the latter. Furthermore, the investor is ambiguity-averse and has a preference for investment strategies that are robust to model misspecifications. We derive a closed-form solution for the optimal robust investment strategy. We find that both learning and ambiguity aversion impact the level and structure of the optimal stock investment. Suboptimal strategies resulting either from not learning or from not considering ambiguity can lead to economically significant losses.

Keywords: return predictability, portfolio choice, ambiguity, learning, robust control

JEL Classification: G11

Suggested Citation

Branger, Nicole and Larsen, Linda Sandris and Munk, Claus, Robust Portfolio Choice with Ambiguity and Learning About Return Predictability (April 26, 2012). Available at SSRN: https://ssrn.com/abstract=1859916 or http://dx.doi.org/10.2139/ssrn.1859916

Nicole Branger

University of Muenster - Finance Center Muenster ( email )

Universitatsstr. 14-16
Muenster, 48143
Germany
+49 251 83 29779 (Phone)
+49 251 83 22867 (Fax)

HOME PAGE: http://www.wiwi.uni-muenster.de/fcm/fcm/das-finance-center/details.php?weobjectID=162

Linda Sandris Larsen

Copenhagen Business School ( email )

Solbjerg Plads 3, A5
Frederiksberg, 2000
Denmark

Claus Munk (Contact Author)

Copenhagen Business School ( email )

Department of Finance
Solbjerg Plads 3
Frederiksberg, DK-2000
Denmark

HOME PAGE: http://sites.google.com/view/clausmunk/home

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