Chapter

Strategic Asset Allocation in Continuous Time

John Y. Campbell and Luis M. Viceira

in Strategic Asset Allocation

Published in print January 2002 | ISBN: 9780198296942
Published online November 2003 | e-ISBN: 9780191596049 | DOI: http://dx.doi.org/10.1093/0198296940.003.0005

Series: Clarendon Lectures in Economics

 Strategic Asset Allocation in Continuous Time

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Discusses solution methods for dynamic asset allocation problems in a continuous‐time framework, and uses them to explore optimal portfolio choice with time‐varying volatility and with parameter uncertainty. When stock market volatility is time‐varying, short‐term investors should reduce the allocation to equities in response to volatility increases. Long‐term investors should go further and hedge volatility risk by reducing their average allocation to equities when the correlation of volatility shocks and realized excess stock returns is negative, but empirically this effect is small in the US stock market. Uncertainty about mean asset returns and the use of updating rules based on realized returns generate a negative inter‐temporal hedging demand that dampens the demand for stocks by conservative investors, contrary to the mean‐reversion effect discussed in Chapter 4.

Keywords: asset allocation; continuous‐time finance; dynamic programming; hedging; mean asset returns; portfolio choice; realized returns; uncertainty; updating rules; volatility

Chapter.  15571 words.  Illustrated.

Subjects: Financial Markets

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