The Impact of Proportional Transaction Costs on Systematically Generated Portfolios

SIAM Journal of Financial Mathematics, 2020

16 Pages Posted: 17 Jul 2020

See all articles by Johannes Ruf

Johannes Ruf

London School of Economics & Political Science (LSE) - London School of Economics

Kangjianan Xie

Lloyds Banking Group

Date Written: June 25, 2020

Abstract

The effect of proportional transaction costs on systematically generated portfolios is studied empirically. The performance of several portfolios (the index tracking portfolio, the equally-weighted portfolio, the entropy-weighted portfolio, and the diversity-weighted portfolio) in the presence of dividends and transaction costs is examined under different configurations involving the trading frequency, constituent list size, and renewing frequency. All portfolios outperform the index tracking portfolio in the absence of transaction costs. This outperformance is statistically significant for daily and weekly traded portfolios but not for monthly traded portfolios. However, when proportional transaction costs of 0.5% are imposed, most portfolios no longer outperform the market. Some exceptional cases include the entropy-weighted and the diversity-weighted portfolios under specific configurations. The only statistical significant difference appears for the relative underperformance of the equally-weighted portfolio.

Keywords: Diversity-weighted portfolio, equally-weighted portfolio, functionally generated portfolio, portfolio analysis, Stochastic Portfolio Theory, transaction cost

JEL Classification: G11

Suggested Citation

Ruf, Johannes and Xie, Kangjianan, The Impact of Proportional Transaction Costs on Systematically Generated Portfolios (June 25, 2020). SIAM Journal of Financial Mathematics, 2020, Available at SSRN: https://ssrn.com/abstract=3635572

Johannes Ruf

London School of Economics & Political Science (LSE) - London School of Economics ( email )

United Kingdom

Kangjianan Xie (Contact Author)

Lloyds Banking Group ( email )

10 Gresham Street
London, EC2V 7AE
United Kingdom

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