Asset strongallocationstrong with conditional value-at-risk budgets.pdfVIP

Journal of Risk Volume 15/Number 3, Spring 2013 (39–68) Asset allocation with conditional value-at-risk budgets Kris Boudt Faculty of Business, Vrije Universiteit Brussel, Pleinlaan 2, 1050 Brussels, Belgium; email: kris.boudt@vub.ac.be and Faculty of Economics and Business, VU University Amsterdam, de Boelelaan 1105, 1081 HV Amsterdam, The Netherlands Peter Carl William Blair Company, 222 West Adams Street, Chicago, IL 60606, USA; email: pcarl@ Brian G. Peterson DV Trading, 216 W Jackson Boulevard, Chicago, IL 60606, USA; email: brian@ (Received October 19, 2011; revised May 24, 2012; accepted June 11, 2012) Risk budgets are frequently used to allocate the risk of a portfolio by decompos- ing the total portfolio risk into the risk contribution of each component position. Many approaches to portfolio allocation use ex post methods for constructing risk budgets and take the variance as a risk measure. In this paper, however, we use ex ante methods to evaluate the component contribution to conditional value-at-risk (CVaR) and allocate risk. The proposed minimum CVaR concen- tration portfolio draws a balance between the investor’s return objectives and the diversification of risk across the portfolio. For a portfolio invested in bonds, commodities, equities and real estate, we find that over the period from January 1984 to June 2010, the minimum CVaR concentration portfolio offers an attrac- tive compromise between the good risk-adjusted return properties of the minimum CVaR portfolio and the positive return potential and low portfolio turnover of an equally weighted portfolio. The authors thank David Ardia, Bernhard Pfaff, Dale Rosenthal and two reviewers for helpful com- ments. Financial support from the National Bank of Belgium is gratefully acknowledged. The code