Team 2: Robust portfolio optimization using a simple factor model

Wednesday, August 5, 2009 - 10:00am - 10:20am
EE/CS 3-180
Christopher Bemis (Whitebox Advisors)


Project Description:

Active portfolio management has developed substantially since the formulation of the Capital Asset Pricing Model (CAPM). While the original methodology of portfolio optimization has been lauded, it is essentially an academic exercise, with practitioners eschewing the suggested weightings. There are myriad reasons for this: nonstationarity of data, insufficiency of modeling parameters, sensitivity of optimization to small perturbations, and assumption of uniform investor utility all indicate potential failures in the model.

We will follow the work of Goldfarb and Iyengar and address some of the issues raised above. In particular, we will consider robust portfolio selection problems. These, still, suffer from the features of nonstationarity and potential misalignment of true investor risk aversion. However, they add flexibility and attempt to remove parameter specification sensitivity. Under this framework, we will also consider how a factor model may enhance our desired results. To be consistent with current conceptions and literature, we will attempt to assimilate the work of Fama and French into our model.


Goldfarb, D. and Iyengar, G. 2003. Robust portfolio selection problems. Mathematics of Operations Research 28: 1-38

Goldfarb, D., Erdogan, E., and Iyengar, G. 2007. Robust portfolio management. Computational Finance 11: 71-98

Fama, E. and French, K. 1993. Common Risk Factors in the Returns on Stocks and Bonds. Journal of Financial Economics 33: 3–56

Nocedal, J. and Wrigth, S. 1999. Numerical Optimization. Springer-Verlag, New York.


Familiarity with mean-variance optimization, constrained optimization methods, and regression. Desired: Coursework in mathematical finance, statistics and optimization; Matlab programming; and some work with second order cone programs.
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