Combining Alphas via Bounded Regression

Risks 3(4) (2015) 474-490

20 Pages Posted: 17 Jan 2015 Last revised: 5 Nov 2015

See all articles by Zura Kakushadze

Zura Kakushadze

Quantigic Solutions LLC; Free University of Tbilisi

Date Written: October 22, 2015

Abstract

We give an explicit algorithm and source code for combining alpha streams via bounded regression. In practical applications typically there is insufficient history to compute a sample covariance matrix (SCM) for a large number of alphas. To compute alpha allocation weights, one then resorts to (weighted) regression over SCM principal components. Regression often produces alpha weights with insufficient diversification and/or skewed distribution against, e.g., turnover. This can be rectified by imposing bounds on alpha weights within the regression procedure. Bounded regression can also be applied to stock and other asset portfolio construction. We discuss illustrative examples.

Keywords: hedge fund, alpha stream, alpha weights, portfolio turnover, investment allocation, weighted regression, diversification, bounds, optimization, factor models

JEL Classification: G00

Suggested Citation

Kakushadze, Zura, Combining Alphas via Bounded Regression (October 22, 2015). Risks 3(4) (2015) 474-490, Available at SSRN: https://ssrn.com/abstract=2550335 or http://dx.doi.org/10.2139/ssrn.2550335

Zura Kakushadze (Contact Author)

Quantigic Solutions LLC ( email )

680 E Main St #543
Stamford, CT 06901
United States
6462210440 (Phone)
6467923264 (Fax)

HOME PAGE: http://www.linkedin.com/in/zurakakushadze

Free University of Tbilisi ( email )

Business School and School of Physics
240, David Agmashenebeli Alley
Tbilisi, 0159
Georgia

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