Tailor-Made Asset Allocation: A Robust Framework to Implement Active Views

Abstract

Asset managers publish tactical asset allocation views regularly. The implementation of such (usually qualitative) views, in portfolios is often over-simplistic. We propose a robust framework to industrialize the construction of tailored portfolios consistent with the views. First, an unconstrained unique tactical portfolio is created by relating the conviction in each view to the allocation of risk budget to the assets underlying the view. Second, the tailored portfolios with investor-specific constraints and targets are constructed using robust portfolio optimization based on implied active returns derived from the unique unconstrained tactical portfolio. The implied returns are derived from reverse optimization using the same robust approach. Robust optimization is the core engine for the industrialization process. It produces portfolios consistent with the views while complying with constraints without requiring human intervention. Finally, a factor-based risk model endows the framework with transparency, by allowing for comparison of risk-factor exposures in portfolios with those in the original views’ exposures.

Keywords: Tactical Asset allocation, Active risk budgeting, Robust portfolio optimization, Multi-asset, Investment Committee, Asset allocation views, Portfolio construction

JEL Classification: G10, G11, G23, O16