Linear predictability vs. bull and bear market models in strategic asset allocation decisions: Evidence from UK data

Arbeitspapier

Most papers in the portfolio choice literature have examined linear predictability frameworks based on the idea that simple but flexible Vector Autoregressive (VAR) models can be expanded to produce portfolio allocations that hedge against the bull and bear dynamics typical of financial markets through careful selection of predictor variables that capture business cycles and market sentiment. Yet, a distinct literature exists that shows that nonlinear econometric frameworks, such as Markov switching, are also natural tools to compute optimal portfolios arising from the existence of good and bad market states. This paper examines whether and how simple VARs can produce portfolio rules similar to those obtained under a simple Markov switching, by studying the effects of expanding both the order of the VAR and the number/selection of predictor variables included. In a typical stock-bond strategic asset allocation problem for U.K. data, we compute the out-of-sample certainty equivalent returns for a wide range of VARs and compare these measures of performance with those of nonlinear models. We conclude that most VARs cannot produce portfolio rules, hedging demands, or (net of transaction costs) out-of-sample performances that approximate those obtained from equally simple nonlinear frameworks.

Angaben zum Objekt

• Sprache: Englisch

Verweise und Beziehungen

• Erschienen in: Series: Manchester Business School Working Paper ; No. 631

Klassifikation und Themen

• Klassifikation: Wirtschaft ; Portfolio Choice; Investment Decisions ; Forecasting Models; Simulation Methods
• Thema: Predictability ; Strategic Asset Allocation ; Markov Switching ; Vector Autoregressive Models ; Out-of-Sample Performance

Beteiligte, Orts- und Zeitangaben

• Ereignis: Geistige Schöpfung
• (wer): Guidolin, Massimo ; Hyde, Stuart
• Ereignis: Veröffentlichung
• (wer): The University of Manchester, Manchester Business School
• (wo): Manchester
• (wann): 2012

Weitere Informationen

• Handle: http://hdl.handle.net/10419/102372
• Letzte Aktualisierung: 10.03.2025, 11:43 MEZ