Resolution of Optimization Problems and Construction of Efficient Portfolios: An Application to the Euro Stoxx 50 Index

Institut de Recerca en Economia Aplicada Regional i Pública, Document de Treball No. 2017/02

43 Pages Posted: 3 Feb 2017

See all articles by Victor Adame-Garcia

Victor Adame-Garcia

Universidad Complutense de Madrid (UCM)

Fernando Fernández Rodríguez

University of Las Palmas de Gran Canaria - Faculty of Economic Science

Simon Sosvilla-Rivero

UCM Institute for Economic Analysis

Date Written: January 26, 2017

Abstract

We assess the effectiveness of various portfolio optimization strategies (only long allocations) applied to the components of the Euro Stoxx 50 index during the period 2002-2015. The sample under study contemplates episodes of high volatility and instability in financial markets, such as the Global Financial Crisis and the European Debt Crisis. This implies a real challenge in portfolio optimization strategies, since all the methodologies used are restricted to the assignment of positive weights. We use the daily returns for the asset allocation with a three year estimation window, keeping the assets in portfolio for one year.

In the context of strategies with short-selling constraints, we contribute to the debate on whether naive diversification proves to be an effective alternative for the construction of the portfolio, as opposed to the portfolio optimization models. To that end, we analyse the out-of-sample performance of 16 strategies for the selection of assets and weights in the main stock index of the euro area. Our results suggest that a large number of strategies outperform both the naive strategy and the Euro Stoxx 50 index in terms of the profitability and Sharpe's ratio. Furthermore, the portfolio strategy based on the maximization of the diversification ratio provides the highest return and the classical strategy of mean-variance renders the highest Sharpe ratio, which is statistically different from the Euro Stoxx 50 index in the period under study.

Keywords: Optimization Problems, Portfolio Choice, Investment Decisions, Asset Allocation, Econometrics, Minimum-Variance Portfolios, Robust Statistics, Out-Of-Sample Performance

JEL Classification: C14, C61, G11

Suggested Citation

Adame-Garcia, Victor and Fernández Rodríguez, Fernando and Sosvilla-Rivero, Simon, Resolution of Optimization Problems and Construction of Efficient Portfolios: An Application to the Euro Stoxx 50 Index (January 26, 2017). Institut de Recerca en Economia Aplicada Regional i Pública, Document de Treball No. 2017/02. Available at SSRN: https://ssrn.com/abstract=2909103 or http://dx.doi.org/10.2139/ssrn.2909103

Victor Adame-Garcia

Universidad Complutense de Madrid (UCM) ( email )

Carretera de Humera s/n
Madrid, Madrid 28223
Spain

Fernando Fernández Rodríguez

University of Las Palmas de Gran Canaria - Faculty of Economic Science ( email )

Campus de Tafira
E-35017 Las Palmas
Spain
+34 928 45 18 02 (Phone)
+34 928 45 18 29 (Fax)

Simon Sosvilla-Rivero (Contact Author)

UCM Institute for Economic Analysis ( email )

Carretera de Humera s/n
Madrid, Madrid 28223
Spain
+34913932626 (Phone)

HOME PAGE: http://www.ucm.es/info/ecocuan/ssr/

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