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Size matters:optimal calibration of shrinkage estimators for portfolio selection

DeMiguel, Victor and Martin Utrera, Alberto and Nogales, Francisco J. (2013) Size matters:optimal calibration of shrinkage estimators for portfolio selection. Journal of Banking and Finance, 37 (8). pp. 3018-3034. ISSN 0378-4266

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Abstract

We carry out a comprehensive investigation of shrinkage estimators for asset allocation, and we find that size matters-the shrinkage intensity plays a significant role in the performance of the resulting estimated optimal portfolios. We study both portfolios computed from shrinkage estimators of the moments of asset returns (shrinkage moments), as well as shrinkage portfolios obtained by shrinking the portfolio weights directly. We make several contributions in this field. First, we propose two novel calibration criteria for the vector of means and the inverse covariance matrix. Second, for the covariance matrix we propose a novel calibration criterion that takes the condition number optimally into account. Third, for shrinkage portfolios we study two novel calibration criteria. Fourth, we propose a simple multivariate smoothed bootstrap approach to construct the optimal shrinkage intensity. Finally, we carry out an extensive out-of-sample analysis with simulated and empirical datasets, and we characterize the performance of the different shrinkage estimators for portfolio selection.

Item Type: Article
Journal or Publication Title: Journal of Banking and Finance
Uncontrolled Keywords: Portfolio choice ; Estimation error ; Shrinkage intensity ; Out-of-sample evaluation ; Bootstrap
Subjects:
Departments: Lancaster University Management School > Accounting & Finance
ID Code: 70716
Deposited By: ep_importer_pure
Deposited On: 10 Sep 2014 17:02
Refereed?: Yes
Published?: Published
Last Modified: 16 Dec 2017 05:14
Identification Number:
URI: http://eprints.lancs.ac.uk/id/eprint/70716

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