Optimizing international portfolios with options and forwards |
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Authors: | Nikolas Topaloglou Hercules Vladimirou Stavros A Zenios |
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Institution: | aDepartment of International and European Economic Studies, Athens University of Economics and Business, Athens, Greece;bCenter for Banking and Financial Research, University of Cyprus, Nicosia, Cyprus |
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Abstract: | We develop a stochastic programming model to address in a unified manner a number of interrelated decisions in international portfolio management: optimal portfolio diversification and mitigation of market and currency risks. The goal is to control the portfolio’s total risk exposure and attain an effective balance between risk and expected return. By incorporating options and forward contracts in the portfolio optimization model we are able to numerically assess the performance of alternative tactics for mitigating exposure to the primary risks. We find that control of market risk with options has more significant impact on portfolio performance than currency hedging. We demonstrate through extensive empirical tests that incremental benefits, in terms of reducing risk and generating profits, are gained when both the market and currency risks are jointly controlled through appropriate means. |
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Keywords: | JEL classification: G11 G15 D81 C61 |
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