Determinants of Levered Portfolio Performance
36 Pages Posted: 12 Jul 2013 Last revised: 21 Apr 2014
Date Written: April 20, 2014
The cumulative return to a levered strategy is determined by five elements that fit together in a simple, useful formula. A previously undocumented element is the covariance between leverage and excess return to the fully invested source portfolio underlying the strategy. In an empirical study of volatility-targeting strategies over the 84-year period 1929-2013, this covariance accounted for a reduction in return that substantially diminished the Sharpe ratio in all cases.
Keywords: Dynamic leverage, source portfolio, transaction costs, borrowing excess return, pension funds, hedge funds, trading costs, volatility target, leverage rule
JEL Classification: E44, G11, G23
Suggested Citation: Suggested Citation