R17 Principles Of Asset Allocation

Question 1

What is the objective function of MVO and what inputs are required

Answer 1

The objective Function of Mean Variance Optimization MVO is to maximize the expected return of the portfolio minus the penalty for risk aversion and expected variance of the portfolio

MVO requires 3 inputs Returns, Risks and Correaltion between assets.

Question 2

Criticisms of MVO

Answer 2

Asset Allocation outputs are highly sensitive to small changes in input
Skewness and Kurtosis are not accounted for in MVO
It is a single period frame work ignores trading, rebalancing or tax costs.