We study asset allocation when the conditional moments of returns are partly predictable. Rather than first model the return distribution and subsequently characterize the portfolio choice, we determine directly the dependence of the optimal portfolio weights on the predictive variables. We combine the predictors into a single index that best captures time variations in investment opportunities. This index helps investors determine which economic variables they should track and, more importantly, in what combination. We consider investors with both expected utility (mean variance and CRRA) and nonexpected utility (ambiguity aversion and prospect theory) objectives and characterize their market timing, horizon effects, and hedging demands.

ABSTRACT This paper directly tests the hypothesis that upstairs intermediation lowers adverse selection cost. We find upstairs market makers effectively screen out information‐motivated orders and execute large liquidity‐motivated orders at a lower cost than the downstairs market. Upstairs markets do not cannibalize or free ride off the downstairs market. In one‐quarter of the trades, the upstairs market offers price improvement over the limit orders available in the consolidated limit order book. Trades are more likely to be executed upstairs at times when liquidity is lower in the downstairs market.