Quantum-Inspired Weighting Approach to Correlation Diversified Passive Portfolio Strategy

Abstract

In this paper, we present a quantum-inspired new approach for passive portfolio strategy improving index investing. The proposed method adjusts weight vector of original index based on the permutation of assets composing the original index. We seek the permutation of assets such that assets with strong correlation to many other assets should be placed in the central part of permutation. Since the number of permutations can be prohibitively large, it is difficult to find the optimal permutation. To overcome the computational difficulty, we introduce a quantum-inspired new technology. By reducing the weights of assets placed in the central area of permutation, we can construct portfolios which are more diversified and have better risk-return characteristics than original index. To examine the usefulness of the proposed method, we apply it to 30 DJIA assets and 33 TOPIX sector indices, and we provide numerical experiments. The numerical experiments show that portfolios constructed by the proposed method can achieve higher return with lower volatility than the original indices, while their behaviors are still similar to those of the original indices.

Keywords: Index Investing, Inverse Volatility Weighting, Correlation Diversified Portfolio (CDP), Inverse Volatility Correlation Diversified Portfolio (IVCDP), Quantum Annealer, Permutation

JEL Classification: G11