RT Journal Article
SR Electronic
T1 Using Dynamic Programming to Optimally Rebalance Portfolios
JF The Journal of Trading
FD Institutional Investor Journals
SP 16
OP 27
DO 10.3905/jot.2006.628191
VO 1
IS 2
A1 Walter Sun
A1 Ayres Fan
A1 Li-Wei Chen
A1 Tom Schouwenaars
A1 Marius A. Albota
YR 2006
UL https://pm-research.com/content/1/2/16.abstract
AB The authors propose a different framework that quantifies the cost of a rebalancing strategy in terms of risk-adjusted returns net of transaction costs. They then derive an optimal rebalancing strategy that actively seeks to minimize that cost. Certainty equivalents and the transaction costs associated with a policy to define a cost-to-go function are used, with the expected cost-to-go minimized using dynamic programming. They apply Monte Carlo simulations to demonstrate that their method outperforms traditional rebalancing strategies like monthly, quarterly, annual, and 5% tolerance rebalancing. They also show the robustness of our method to model error by performing sensitivity analyses.TOPICS: Simulations, portfolio construction, performance measurement