Semi Variance and Semi Correlation for Financial Investments
35 Pages Posted: 6 Aug 2001 Last revised: 20 Aug 2009
Date Written: June 1, 2001
Abstract
Many studies show that international correlations have changed through time. This phenomenon changed many portfolio managers' practices, which are now strictly linked with sectors behaviours. In order to give reason for this management style, we provide some new evidences for correlation dynamics among geographic areas and business sectors. Nevertheless some researches offer theoretical basis for semi-variance optimisation, fewer authors analyse its contribution to financial portfolios. Here we apply the concept to compare whether it applies efficiently to sectors and countries. The paper is aimed at answering to the following questions:
1) is short-term correlation useful for tactical asset allocation?
2) is it possible to estimate less volatile indexes of correlation, so to ease the forecasting process?
3) how to obtain a good coherence with frameworks incorporating downside risk as measure of risk?
4) can portfolios outperform those allocated with the usual correlation index?
Conclusions are that:
1) short-term correlation, if adequately modelled, can be fundamental to im-plement a successful tactical asset allocation;
2) correlations lower volatile thanks to the application of semi-correlation measure;
3) computational methods applied to benchmark returns generate good results, especially in terms of direction, which is, in fact, the necessary input for the application of semi-correlation to the asset allocation process;
4) finally, gap ratios among returns and volatility grow for both the groups and extreme values of the frontiers and the upward of risk/return ratio is still better for geographical diversification, especially in the minimum values of expected returns.
Keywords: Correlation, asset allocation, sectors, benchmark, variance, optimization
JEL Classification: C45, F3, G11, G15
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