2017/09/30 by Nikolaus Hautsch, Stefan Voigt · 1 citation
Economics, Econometrics and Finance · #q-fin.PM
paper · pdf · doi:10.1016/j.jeconom.2019.04.028
published as Journal of Econometrics, 2019, 212(1), p. 221-240
arxiv created 2018/06/21 · arxiv updated 2020/03/26
We theoretically and empirically study portfolio optimization under transaction costs and establish a link between turnover penalization and covariance shrinkage with the penalization governed by transaction costs. We show how the ex ante incorporation of transaction costs shifts optimal portfolios towards regularized versions of efficient allocations. The regulatory effect of transaction costs is studied in an econometric setting incorporating parameter uncertainty and optimally combining predictive distributions resulting from high-frequency and low-frequency data. In an extensive empirical study, we illustrate that turnover penalization is more effective than commonly employed shrinkage methods and is crucial in order to construct empirically well-performing portfolios.