Global CAPE Model Optimization

17 Pages Posted: 18 Oct 2012 Last revised: 31 Oct 2012

Adam Butler

ReSolve Asset Management

Mike Philbrick

ReSolve Asset Management

Rodrigo Gordillo

ReSolve Asset Management

Meb Faber

Cambria Investment Management

Date Written: October 18, 2012

Abstract

We use the Shiller CAPE Model proposed by Mebane Faber as a template for the exploration of a variety of portfolio optimization methods. By virtue of the Model's systematic allocation to the 'cheapest' markets with the highest theoretical risk premia, the model has the potential to extract high costs from 'behavioural taxes' related to the model’s extreme volatility and drawdown character. We apply several portfolio optimization techniques with the objective of maximizing portfolio Sharpe ratios and minimizing drawdowns, including dynamic volatility weighting, risk parity, target risk and minimum variance. Consistent with recent published research on robust portfolio optimization, return to risk ratios improve broadly, with the greatest impact achieved from procedures that manage positions and/or portfolios to an ex ante target volatility. A theoretical framework is also proposed.

Keywords: CAPE, Shiller, Faber, Butler, Philbrick, Gordillo, GestaltU, Portfolio Optimization, Volatility, Risk Parity, Minimum Variance, Target Volatility, Risk Budget, Volatility Budget, Low Volatility Anomaly

Suggested Citation

Butler, Adam and Philbrick, Mike and Gordillo, Rodrigo and Faber, Meb, Global CAPE Model Optimization (October 18, 2012). Available at SSRN: https://ssrn.com/abstract=2163486 or http://dx.doi.org/10.2139/ssrn.2163486

Adam Butler (Contact Author)

ReSolve Asset Management ( email )

1 Adelaide St. East, Suite 2000
Toronto, Ontario M5C 2V9
Canada
4165725477 (Phone)

HOME PAGE: http://www.investresolve.com

Mike Philbrick

ReSolve Asset Management ( email )

1 Adelaide St. East, Suite 2000
Toronto, Ontario M5C 2V9
Canada
4165725478 (Phone)

HOME PAGE: http://www.investresolve.com

Rodrigo Gordillo

ReSolve Asset Management ( email )

1 Adelaide Street East
Suite 2100
Toronto, Ontario M5C 2V9
Canada
416-864-3597 (Phone)

HOME PAGE: http://www.investresolve.com

Meb Faber

Cambria Investment Management ( email )

2321 Rosecrans Ave
Suite 4270
El Segundo, CA 90245
United States

HOME PAGE: http://www.cambriainvestments.com

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