Managing a portfolio to a risk model can tilt the portfolio toward weaknesses of the model. As a result, the optimized portfolio acquires downside exposure to uncertainty in the model itself, what we call “second order risk.” We propose a risk measure that accounts for this bias. Studies of real portfolios, in asset-by-asset and factor model contexts, demonstrate that second order risk contributes significantly to realized volatility, and that the proposed measure accurately forecasts the out-of-sample behavior of optimized portfolios.
- Paper
- Start date: 2017-03-07 11:00:00
- End date: 2017-03-07 12:30:00
- Venue: 639 Evans Hall at UC Berkeley
- Address: 639 Evans Hall, Berkeley, CA, 94720