Asset Allocation of Sovereign Wealth Funds with Predictable Returns in Emerging and Imperfect Markets

Abstract

In recent years, the global economy as a whole has been recovering steadily and moderately. The international market demand has been obviously improved, and the emerging market economy has been expanding, which provides a good investment opportunity for the global Sovereign Wealth Funds (SWF). This paper mainly studies investment strategies of China's SWF in emerging markets. Considering the predictability of asset returns, the dynamic asset allocation model of SWF under incomplete market conditions is constructed. The incomplete market is transformed into a complete market by dimension reduction method. The results show that the imperfect market characteristics of stock assets above does not consider the prediction variables, the optimal allocation, asset allocation is different from the short-term and long-term investor, as the extension of investment horizon, risk assets such as equities allocation will also rise. In incomplete market, investors tend to be more conservative, and the proportion of investment in risk assets is significantly smaller than that in complete market. When the risk aversion coefficient decreases, that is, the lower the risk acceptance rate is, the lower the proportion of investors in risk assets will be, and the corresponding final utility wealth value and the maximum expected utility wealth value will be smaller. Moreover, the liquidity index is negatively correlated with the return on equity assets, that is, when the index declines, the return on equity increases.