Does Mean-CVaR Outperform Mean-Variance? Theoretical and Practical Perspectives

52 Pages Posted: 20 Mar 2018 Last revised: 1 Aug 2018

See all articles by Linh Nguyen

Linh Nguyen

De Montfort University

Linh Xuan Diep Nguyen

University of Leicester

Emmanuel Adegbite

De Montfort University

Date Written: July 21, 2018

Abstract

This paper provides a systematic investigation of the relative performance between the two mainstream portfolio optimisation methods: mean-variance and mean-Conditional Value-at-Risk (CVaR) from both theoretical and practical perspectives. Using portfolios representing the entire US stock market, we confirm the theoretical outperformance of mean-CVaR in the frictionless market. We explain the popularity of mean-variance in a practical investment context by showing that the superiority of mean-CVaR disappears when simple historical sample inputs and transaction costs are incorporated. We further reveal that the relative performance between the two optimisation methods is significantly influenced by the characteristics of the constituent stocks in the portfolio as well as the stock market condition. Our findings have important implications in shaping investment decisions.

Keywords: Portfolio Optimisation, Volatility, Tail Risk, Conditional Value-at-Risk, Investment Decision

JEL Classification: C13, C15, C32, C61, G11, G12

Suggested Citation

Nguyen, Linh and Nguyen, Linh Xuan Diep and Adegbite, Emmanuel, Does Mean-CVaR Outperform Mean-Variance? Theoretical and Practical Perspectives (July 21, 2018). Available at SSRN: https://ssrn.com/abstract=3143827 or http://dx.doi.org/10.2139/ssrn.3143827

Linh Nguyen (Contact Author)

De Montfort University ( email )

The Gateway
Leicester, LE1 9BH
United Kingdom

Linh Xuan Diep Nguyen

University of Leicester ( email )

University Road
Leicester, LE1 7RH
United Kingdom

Emmanuel Adegbite

De Montfort University ( email )

Leicester, LE1 9BH
United Kingdom

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