Exploring the benefits of using stock characteristics in optimal portfolio strategies

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Abstract

I examine the benefits of using stock characteristics to model optimal portfolio weights in stock selection strategies using the characteristic portfolio approach of Brandt, Santa-Clara and Valkanov [2009. “Parametric Portfolio Policies: Exploiting Characteristics in the Cross-section of Equity Returns.” Review of Financial Studies 22: 3411–3447]. I find that there are significant out-of-sample performance benefits in using characteristics in stock selection strategies even after adjusting for trading costs, when investors can invest in the largest 350 U.K. stocks. Imposing short selling restrictions on the characteristic portfolio strategy leads to more consistent performance. The performance benefits are concentrated in the earlier part of the sample period and have disappeared in recent years. I find that there no performance benefits in using stock characteristics when using random subsets of the largest 350 stocks.
Original languageEnglish
Pages (from-to)192-210
Number of pages19
JournalEuropean Journal of Finance
Volume23
Issue number3
Early online date9 Jul 2015
DOIs
Publication statusPublished - 1 Mar 2017

Keywords

  • characteristics
  • modelling portfolio weights
  • mean-variance strategies

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