Large deviations estimation of the windfall and shortfall probabilities for optimal diversified portfolios |
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Authors: | Ba Chu |
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Institution: | 1. Department of Economics, Carleton University, B-857 Loeb Building, 1125 Colonel By Drive, Ottawa, ON, K1S 5B6, Canada
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Abstract: | Many investors believe that they can effectively reduce risk by, among other ways, holding large combinations of investment
assets. The purpose of this paper is to develop asymptotic approximations of the windfall and shortfall probabilities for an optimal portfolio of risky assets as the number of the assets becomes sufficiently large. We start by
providing some heuristics to motivate our problem, then proceed to prove general large deviations theorems. We also present
specific results with an application to the multivariate normal case. Both a theoretical analysis of the method and an empirical
application justify the diversification tenet of the allocation strategies that many hedge funds and pension funds tend to adopt nowadays. |
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Keywords: | |
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