Strategic currency hedging and global portfolio investments upside down

The literature on the convenience of currency hedging of international portfolio investments has not reached a final verdict. There are arguments for (Perold and Schulman [Perold, A.F. and Schulman, E.C. (1988). The free lunch in currency hedging: implications for investment policy and performance standards, Financial Analysts Journal, May/June Vol. 44, No. 3: 45-52]) and against (Froot [Froot, K. (1993). Currency hedging over long horizons. NBER Working Paper 4355.] and Campbell et al. [Campbell, J.Y., Viceira, L.M. and White, J.S. (2003). Foreign currency for long-term investors. The Economic Journal, Volume 113, Number 486, (March), pp. C1-C25(1)]). This paper analyzes the perspective of global investors based in emerging markets, for which hedging should imply increasing expected returns. The question thus is whether currency hedging is a “free lunch” in this case. No free lunch exists, as it turns out. Hard currencies act as natural hedges against global (and local) portfolio losses, since they tend to appreciate with respect to emerging market currencies when the world portfolio return is negative. Therefore, in this case currency hedging increases volatility—although also increasing expected returns. This result is likely to hold generally for relatively open economies with flexible exchange rate regimes.     

Ethical Investing Has No Portfolio Performance Cost

We guide investors in three ethical investment applications by comparing ethically constrained versus unconstrained optimal portfolio methods that force well-behaved weights. With optimal readjustment upon constrained investing, in Sharpe ratio analysis, we find no evidence of a performance cost for sin-free, carbon-free, or Shariah portfolios even though, in the most exacting case, Shariah investing excludes roughly 65% of common shares from security selection. In each case, we identify the specific portfolio adjustments needed to prevent an ethical portfolio performance cost.     

In‐house asset management in the Australian superannuation industry

We examine how executives from the Australian superannuation industry perceive and approach the choice between managing assets in‐house, versus outsourcing to external investment managers. We find that decision frameworks, as well as the perceived benefits and challenges of in‐house management, can be described in terms of four elements: costs, capabilities, alignment and governance. Industry participants address these four elements in diverse ways. This is reflected in a variety of decision approaches, aspects that are considered and emphasised in decision‐making, and implementation structures.     

Expectile CAPM

Conventional wisdom suggests that the uncertainty of uninformed noise-traders’ sentiment deters rational traders’ arbitrage activities. However, nowadays, social media have made the public sentiment highly predictable, whereas the CAPM-motivated beta-return relation still does not hold in practice. This study advances an argument that the sentiment can also be brought about by rational, sophisticated investors’ use of psychological insight; resultantly, the arbitrage activities are demotivated by their own sentiment, rather than deterred by noise-traders’ sentiment risk. The proposed expectile CAPM provides a parsimonious way to account for this claim, and leads to a sentiment-based functional form of pricing kernel.     

Hedge fund strategies,performance &diversification: A portfolio theory & stochastic discount factor approach

For 5500 North American hedge funds following 11 different strategies, we analyse the stand-alone performance of these strategies using a stochastic discount factor approach. Employing the same data, we then consider the diversification benefits of each hedge fund strategy when combined with a portfolio of US equities and bonds. We compute the out-of-sample Black-Litterman portfolios, with Bayes-Stein, higher moments, simulations, desmoothed data and allowance for regimes as robustness checks. All but two hedge fund strategies out-perform the market as stand-alone investments; and all but one provide significant diversification benefits. The higher is an investor’s risk aversion, the more beneficial is diversification into hedge funds.     

Financial institutions’ business models and the global transmission of monetary policy

Global financial institutions play an important role in channeling funds across countries and, therefore, transmitting monetary policy from one country to another. In this paper, we study whether such international transmission depends on financial institutions’ business models. In particular, we use Dutch, Spanish, and U.S. confidential supervisory data to test whether the transmission operates differently through banks, insurance companies, and pension funds. We find marked heterogeneity in the transmission of monetary policy across the three types of institutions, across the three banking systems, and across banks within each banking system. While insurance companies and pension funds do not transmit home-country monetary policy internationally, banks do, with the direction and strength of the transmission determined by their business models and balance sheet characteristics.     

Long-term wealth growth portfolio allocation under parameter uncertainty: A non-conservative robust approach

The Kelly portfolio, which is documented to have the highest wealth growth rate of any other portfolio in the long run, has highly risky and unstable performance in the short term. This paper offers a hybrid approach to address this problem by integrating the concept of ridge regression and shrinkage estimation into a robustly modified Kelly portfolio. The proposed approach is a two-stage optimization process that not only takes into account the effect of estimation error but also solves the notoriously conservative problem introduced by the robust optimization method. By extending the worst-case scenarios considered by the robust Kelly portfolio, our approach significantly improves its out-of-sample performance without compromising risk reduction. In an extensive out-of-sample analysis with simulated and empirical data sets, we also characterize the impacts of the robustness level and the length of the rolling window on the final result. Moreover, we conduct a comparative study to confirm the validity of the proposed approach, and our model allows the investor to have a better risk-return trade-off than other traditional models.     

套息交易对中国短期资本流动的影响——基于动态资产组合理论的研究

本文基于动态资产组合最优权重的变化研究套息交易对中国短期跨境资本流动的影响。通过将人民币套息资产、美元无风险资产和美元风险资产作为基础资产,构建国际投资组合,计算动态最优权重并考察其对中国短期资本流动的影响。结果显示,当汇率及利差等状态变量随时间发生改变时,套息交易资产组合的最优权重也会随之发生改变,且能显著地解释我国短期资本流动的变化,但套息交易的资产配置并不是导致当前我国资本流动出现趋势性变化的根本原因。     

Millionaire investors: financial advisors,attribution theory and gender differences

To date little attention has been paid to how social cognitive bias can influence how financial advisors interpret and respond to the needs of millionaire investors, and if this varies depending on the gender of the investor. This research investigates whether experienced professional financial advisors who work with millionaire investors make different attributions for the control and knowledge that investors have of their investments, and if they make different investment portfolio recommendations to equivalent male and female investors. Using methodology novel to finance, this vignette-based study that controls for gender finds evidence that professional financial advisors judge millionaire female investors to have less control over their investment portfolios relative to men. Empirical results also show that female advisors judge women to be less knowledgeable about investments than men. Despite such perceptual differences, advisors recommend equally risky portfolios to male and female investors. These results have implications for wealth management institutions and the monitoring of financial advisors for millionaire individuals.