Portfolio optimization under tracking error and weights constraints

Portfolio optimization under tracking error and weights constraints

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Article ID: iaor201112334
Volume: 34
Issue: 2
Start Page Number: 295
End Page Number: 330
Publication Date: Jun 2011
Journal: Journal of Financial Research
Authors: , , ,
Keywords: portfolio optimization
Abstract:

The performance of active portfolio managers who must comply with a weights constraint is often assessed against a benchmark. The weights constraint is common as the funds are committed by their own prospectus to a minimum (or maximum) portfolio concentration. We characterize the optimal asset allocation and analyze the implications of the weights constraint on the manager's performance and on the relevance of the information ratio. We obtain that because of the weights constraint, at the optimum, the information ratio often decreases when the manager is free to deviate more from the benchmark.

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