Mean-Absolute Deviation Optimization Model for Hedging Portfolio Selection Problems

Abstract

The paper presents the idea of hedging portfolio selection and establishes the Mean- Absolute Deviation (MAD) optimization model for hedging portfolio selection problems. The MAD model uses absolute-deviation of returns of a hedging portfolio as measure of hedging risk. The MAD model can be converted into a linear programming model equivalently and the optimal solutions for the model can be calculated efficiently by the pivoting algorithm. Numerical experiments using the history data from NYBOT show that the hedging strategies based on MAD model have better hedging effectiveness than traditional hedging strategies.