Efficient Asset Management: A Practical Guide to Stock Portfolio Optimization and Asset Allocation

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The failure of optimized portfolios to meet their practical investment goals has prompted many portfolio managers to abandon optimization techniques for simpler alternatives to maximize asset value. Yet, according to financial expert Richard Michaud, readily available methods exist to help practitioners reduce instability and enhance the value of optimization--tools that the investment community has largely ignored. In his succinct new book, Michaud argues that the problems lies with the conventional perception of optimization as a numerical computation; this view has severely restricted the typical manager's understanding of inherent limitations--and resulted in optimized portfolios that frequently fall short of their potential. If, instead, managers approach optimization as a statistical estimation, Michaud argues, they can resolve many of the serious limitations. Michaud identifies and explains five powerful techniques--improved estimation, application of benchmark priors, integration of active forecasts, tests for efficiency, and tests for portfolio weights--that portfolio managers can use to reduce errors, increase precision, and enhance the value of seemingly optimized portfolios. He illustrates the impact of each method with a simple asset allocation problem. With its important implications for investment practice, Efficient Asset Management's highly intuitive yet rigorous approach to defining optimal portfolios will appeal to investment management executives, consultants, brokers, and anyone seeking to stay abreast of current investment technology. Through practical examples and illustrations, Michaud updates the practice of optimization for modern investment management.
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Editorial Reviews

From the Publisher

"Michaud focuses on the fact that sampling errors in input estimates can have extreme effects on the portfolios produced by a mean-variance analysis. While some may debate his conclusions, everyone should understand the problem as Michaud so ably presents it and his proposed solution to it. This is a must-read, must-think-about book."--Harry M. Markowitz, Nobel Laureate, Economics, 1990

"In his long-standing tradition, Michaud once again pushes the envelope of mean-variance optimization. Quantitative analysts of all stripes will enjoy his work. Resampling is bound to be of growing interest."--Kenneth L. Fisher, Chairman & CEO, Fisher Investments, Inc.;Forbes Portfolio Strategy Columnist; and MarketPlace Commentator, Public Radio International

"Efficient Asset Management is essential reading for all investment managers. Michaud persuasively and eloquently shows that portfolio management is an inherently statistical task and is therefore subject to significant sampling error. More important, he provides a new tool, the resampling efficient frontier, for mitigating the problem. Michaud's tour de force is a rare example of a product with genuine merit for all investors."--Richard Roll, Allstate Chair in Finance and Insurance, John E. Anderson Graduate School of Management, UCLA

"This book is a delightfully sophisticated yet practical introduction to portfolio management that will appeal to industry professionals as well as finance students."--Andrew W. Lo, Harris & Harris Group Professor and Director of the Laboratory for Financial Engineering, MIT

"Efficient Asset Management offers an exciting and innovative approach to asset construction that builds on the established literature. It provides the practitioner with a new dimension for incorporating value-added investment judgments in the portfolio-building process. Readable and useful, this book makes a significant contribution to better portfolio management."--Gary P. Brinson, President, Brinson Partners, Inc.

Arguing that most optimization plans fail to live up to their potential because of the wide belief that they can be treated as a computational technique, the author claims that a better way would be to approach optimization as a statistical estimation of Markowitz mean-variance efficiency. He explains a number of techniques within this approach, including improved input estimation, the definition and use of portfolio priors, the integration of forecasts with historical data, and tests for portfolio revisions. Annotation c. by Book News, Inc., Portland, Or.
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Product Details

Meet the Author

Richard Michaud is a senior vice president of Acadian Asset Management in Boston, a director of the Institute for Quantitative Research in Finance, and an editorial board member of the Financial Analysts Journal.

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Table of Contents

Ch. 1 Introduction 1
Ch. 2 Classic Mean-Variance Optimization 7
Ch. 3 Traditional Criticisms and Alternatives 23
Ch. 4 Understanding Mean-Variance Efficiency 33
Ch. 5 Portfolio Review and Mean-Variance Efficiency 41
Ch. 6 Portfolio Analysis and the Resampled Efficient Frontier 49
Ch. 7 Portfolio Revision and Confidence Regions 71
Ch. 8 Input Estimation and Stein Estimators 83
Ch. 9 Benchmark Active Asset Allocation 101
Ch. 10 Investment Policy and Economic Liabilities 115
Ch. 11 Return Forecasts and Mixed Estimation 127
Ch. 12 Avoiding Optimization Errors 133
Epilogue 141
Bibliography 143
Index 149
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