Horses for Courses: Mean-Variance for Asset Allocation and 1/N for Stock Selection

38 Pages Posted: 14 May 2019

See all articles by Emmanouil Platanakis

Emmanouil Platanakis

University of Bath - School of Management

Charles Sutcliffe

University of Reading - ICMA Centre

Xiaoxia Ye

University of Liverpool Management School

Date Written: May 14, 2019

Abstract

For various organizational reasons, large investors typically split their portfolio decision into two stages - asset allocation and stock selection. We hypothesise that mean-variance models are superior to equal weighting for asset allocation, while the reverse applies for stock selection, as estimation errors are less of a problem for mean-variance models when used for asset allocation than for stock selection. We confirm this hypothesis in separate analyses of US and international equities using four different types of mean-variance model (Bayes-Stein, Black-Litterman, Bayesian diffuse prior and Markowitz), a range of parameter settings, and a simulation analysis calibrated to US data.

Keywords: Asset allocation, stock selection, mean-variance, naive diversification, portfolio theory

JEL Classification: G11, G12

Suggested Citation

Platanakis, Emmanouil and Sutcliffe, Charles M. and Ye, Xiaoxia, Horses for Courses: Mean-Variance for Asset Allocation and 1/N for Stock Selection (May 14, 2019). Available at SSRN: https://ssrn.com/abstract=3372334 or http://dx.doi.org/10.2139/ssrn.3372334

Emmanouil Platanakis (Contact Author)

University of Bath - School of Management ( email )

Claverton Down
Bath, BA2 7AY
United Kingdom

Charles M. Sutcliffe

University of Reading - ICMA Centre ( email )

Whiteknights Park
P.O. Box 242
Reading RG6 6BA
United Kingdom

Xiaoxia Ye

University of Liverpool Management School ( email )

Chatham Street
Liverpool, L69 7ZH
United Kingdom

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