Enhanced Portfolio Optimization

Lasse Heje Pedersen, Abhilash Babu, and Ari Levine (2021), Enhanced Portfolio Optimization, Financial Analysts Journal, 77:2, 124-151, DOI: 10.1080/0015198X.2020.1854543

49 Pages Posted: 2 Mar 2020 Last revised: 30 Apr 2021

See all articles by Lasse Heje Pedersen

Lasse Heje Pedersen

AQR Capital Management, LLC; Copenhagen Business School - Department of Finance; New York University (NYU); Centre for Economic Policy Research (CEPR)

Abhilash Babu

AQR Capital Management, LLC

Ari Levine

AQR Capital Management

Date Written: January 2, 2020

Abstract

Portfolio optimization should provide large benefits to investors, but standard mean-variance optimization (MVO) works so poorly in practice that optimization is often abandoned. The approaches developed to address this issue are often surrounded by mystique regarding how, why, and whether they really work, so we seek to simplify, unify, and demystify optimization. We identify the portfolios that cause problems in standard MVO and present a simple enhanced portfolio optimization (EPO) method. Applying EPO to industry momentum and time series momentum across equities and global asset classes, we find significant alpha beyond the market, the 1/N portfolio, and standard asset pricing factors.

Citation: Pedersen, Lasse Heje, Abhilash Babu, and Ari Levine, Enhanced Portfolio Optimization,
Financial Analysts Journal, 2021, 77(2): 124-151.
Available at SSRN: https://ssrn.com/abstract=3530390
Published version (open access) at https://doi.org/10.1080/0015198X.2020.1854543

Keywords: portfolio choice, optimization, robustness, Black-Litterman, machine learning

JEL Classification: C58, C61, G11, G14

Suggested Citation

Pedersen, Lasse Heje and Babu, Abhilash and Levine, Ari, Enhanced Portfolio Optimization (January 2, 2020). Lasse Heje Pedersen, Abhilash Babu, and Ari Levine (2021), Enhanced Portfolio Optimization, Financial Analysts Journal, 77:2, 124-151, DOI: 10.1080/0015198X.2020.1854543 , Available at SSRN: https://ssrn.com/abstract=3530390 or http://dx.doi.org/10.2139/ssrn.3530390

Lasse Heje Pedersen (Contact Author)

AQR Capital Management, LLC ( email )

Greenwich, CT
United States

Copenhagen Business School - Department of Finance ( email )

Solbjerg Plads 3
Frederiksberg, DK-2000
Denmark

New York University (NYU) ( email )

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Abhilash Babu

AQR Capital Management, LLC ( email )

Greenwich, CT
United States

Ari Levine

AQR Capital Management ( email )

Greenwich, CT
United States
2037423851 (Phone)

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