Related papers: The Limits of Leverage
Addressing the ongoing examination of high-frequency trading practices in financial markets, we report the results of an extensive empirical study estimating the maximum possible profitability of the most aggressive such practices, and…
The purpose of these notes is to provide a systematic quantitative framework - in what is intended to be a "pedagogical" fashion - for discussing mean-reversion and optimization. We start with pair trading and add complexity by following…
We consider the multi-period portfolio optimization problem with a single asset that can be held long or short. Due to the presence of transaction costs, maximizing the immediate reward at each period may prove detrimental, as frequent…
Portfolio optimization methods suffer from a catalogue of known problems, mainly due to the facts that pair correlations of asset returns are unstable, and that extremal risk measures such as maximum drawdown are difficult to predict due to…
As soon as one accepts to abandon the zero-risk paradigm of Black-Scholes, very interesting issues concerning risk control arise because different definitions of the risk become unequivalent. Optimal hedges then depend on the quantity one…
It has been assumed that arbitrage profits are not possible in efficient markets, because future prices are not predictable. Here we show that predictability alone is not a sufficient measure of market efficiency. We instead propose to…
In the present paper, using a replica analysis, we examine the portfolio optimization problem handled in previous work and discuss the minimization of investment risk under constraints of budget and expected return for the case that the…
We propose a new volatility model based on two stylized facts of the volatility in the stock market: clustering and leverage effect. We calibrate our model parameters, in the leading order, with 77 years Dow Jones Industrial Average data.…
Value adjustment of uncollateralized trades is determined within a risk-neutral pricing framework. When hedging such trades, investors cannot freely trade protection on their own name, thus facing an incomplete market. This fact is…
Following a series of works on capital growth investment, we analyse log-optimal portfolios where the return evaluation includes `weights' of different outcomes. The results are twofold: (A) under certain conditions, the logarithmic growth…
We consider a financial market in which traders potentially face restrictions in trading some of the available securities. Traders are heterogeneous with respect to their beliefs and risk profiles, and the market is assumed thin: traders…
The price of electricity is far more volatile than that of other commodities normally noted for extreme volatility. Demand and supply are balanced on a knife-edge because electric power cannot be economically stored, end user demand is…
We consider the economic problem of optimal consumption and investment with power utility. We study the optimal strategy as the relative risk aversion tends to infinity or to one. The convergence of the optimal consumption is obtained for…
The leverage effect-- the correlation between an asset's return and its volatility-- has played a key role in forecasting and understanding volatility and risk. While it is a long standing consensus that leverage effects exist and improve…
The effect of proportional transaction costs on systematically generated portfolios is studied empirically. The performance of several portfolios (the index tracking portfolio, the equally-weighted portfolio, the entropy-weighted portfolio,…
We study hedging and pricing of unattainable contingent claims in a non-Markovian regime-switching financial model. Our financial market consists of a bank account and a risky asset whose dynamics are driven by a Brownian motion and a…
We consider the problem of the optimal trading strategy in the presence of linear costs, and with a strict cap on the allowed position in the market. Using Bellman's backward recursion method, we show that the optimal strategy is to switch…
In an incomplete market, including liquidly-traded European options in an investment portfolio could potentially improve the expected terminal utility for a risk-averse investor. However, unlike the Sharpe ratio, which provides a concise…
We examine strategically incorporating broad stock market leveraged exchange-traded funds (LETFs) into investment portfolios. We demonstrate that easily understandable and implementable strategies can enhance the risk-return profile of a…
Long Memory Stochastic volatility (LMSV) models capture two standardized features of financial data: the log-returns are uncorrelated, but their squares, or absolute values are (highly) dependent and they may have heavy tails. EGARCH and…