An Asset Allocation Model Based on a Semi Variance Adjusted Sharpe Ratio

Abstract

In asset allocation processes the estimation of standard deviations is often measured with error. As a result, the risk adjusted return ratios will be subject to estimation error. Since risk estimation is crucial in investment decisions, several risk measures have been suggested to take into consideration that risk changes through time. The choice of different risk measures can considerably change asset allocation decisions in the way in which assets are ranked on the basis of their risk-return profile. This paper is concerned with how to construct optimal portfolios that adapt quickly to changes in risk using a time varying asset allocation model based on a modified Sharpe Ratio measure.