Abstract #300084

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JSM 2003 Abstract #300084
Activity Number: 415
Type: Contributed
Date/Time: Wednesday, August 6, 2003 : 2:00 PM to 3:50 PM
Sponsor: Business & Economics Statistics Section
Abstract - #300084
Title: Performance of Portfolios Optimized with Estimation Error
Author(s): Andrew F. Siegel*+ and Artemiza Woodgate
Companies: University of Washington and University of Washington
Address: Box 353200, Seattle, WA, 98195-3200,
Keywords:
Abstract:

We explain poor out-of-sample performance of mean-variance optimized portfolios by asymptotically expanding future returns of portfolios formed with estimated weights. Classical estimates of portfolio mean and standard deviation can be adjusted for overoptimism bias arising from use of noisy estimates in place of true parameters. Dominant terms grow linearly with the number of assets, and decline inversely with the number of past time periods. Surprisingly, no asymptotic adjustment is needed with three assets. Sharpe-ratio maximizing portfolios become more diversified after adjustment under suitable conditions. Adjustment generally reduces international equity portfolio overoptimism. Bootstrap simulation establishes small-sample effectiveness and robustness to non-normality.

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