Volatility Managed Multi-Factor Portfolios
55 Pages Posted: 1 Mar 2024 Last revised: 29 Feb 2024
Date Written: February 27, 2024
Abstract
This paper demonstrates that portfolio performance can be substantially enhanced by simultaneously utilizing the volatilities of historical factor returns and option-derived market volatilities to determine factor exposures. The extent of improvement is particularly pronounced in risk regimes exhibiting option-implied right-skewed and high volatility market returns. Further gains in risk-adjusted portfolio returns are achieved when model parameters are separately estimated for different regimes. Importantly, these results are not contingent on a specific set of factors; similar enhancements are observed when employing principal components derived from a diverse set of factors. Furthermore, the findings are robust to transaction costs and out-of-sample estimation.
Keywords: Volatility management, equity risk premia, portfolio management, investment strategies
JEL Classification: G01, G11, G12
Suggested Citation: Suggested Citation