MULTI-ASSET PORTFOLIO OPTIMIZATION WITH STOCHASTIC SHARPE RATIO UNDER DRAWDOWN CONSTRAINT

We consider an investor who seeks to maximize his expected utility of the portfolio, consisting of multiple risky assets and one risk-free asset, derived from the terminal wealth relative to the maximum wealth achieved over a fixed time horizon. This is achieved under a portfolio draw down constraint, in a market with local stochastic volatility. In empirical application, considering two risky assets, the assets have been identified with the help of pairs trading. In the absence of closed form solution of the value function and the optimal strategy, we obtain the approximates of these quantities using coefficient series expansion techniques and finite difference schemes. We utilize the risk tolerance factor function to ease our approximations of this value functions and the strategies. All the parameters were estimated from the triplets and used to illustrate and compare the stochastic volatility with the constant volatility situation, and how an investor can deploy different portfolio plans.

Optimal Portfolio Strategy under Rolling Economic Maximum Drawdown Constraints

This paper deals with the problem of optimal portfolio strategy under the constraints of rolling economic maximum drawdown. A more practical strategy is developed by using rolling Sharpe ratio in computing the allocation proportion in contrast to existing models. Besides, another novel strategy named “REDP strategy” is further proposed, which replaces the rolling economic drawdown of the portfolio with the rolling economic drawdown of the risky asset. The simulation tests prove thatREDP strategycan ensure the portfolio to satisfy the drawdown constraint and outperforms other strategies significantly. An empirical comparison research on the performances of different strategies is carried out by using the 23-year monthly data of SPTR, DJUBS, and 3-month T-bill. The investment cases of single risky asset and two risky assets are both studied in this paper. Empirical results indicate that theREDP strategysuccessfully controls the maximum drawdown within the given limit and performs best in both return and risk.