Review of Finance Vol. 19 No. 1 2015
Portfolio Optimization Using Forward-Looking Information
Abstract
We develop a new family of estimators of the covariance matrix that relies solely on forward-looking information. It uses only current prices of plain-vanilla options. In an out-of-sample study, we show that a minimum variance strategy based on these fully-implied estimators outperforms several benchmark strategies, including various strategies based on historical estimates, index investing, and 1/N investing. The outperformance originates in crisis periods when information flow and information asymmetry are high. Although the historical benchmark strategies improve when more recent data are used, they never outperform fully-implied strategies. Thus, our results suggest that investors are better off relying on forward-looking information.
- DOI
- 10.1093/rof/rfu006
- Volume
- 19
- Issue
- 1
- Pages
- 467-490
- Language
- en
- Sources
- bibtex:phds-export.bib openalex crossref