Portfolio Selection Using Multi-Objective Optimisation

240 Pages·2017·4.06 MB·English

by  Agarwal

mic Trading Anchoring Bias Arbitrage
Asymmetric Information Bartlett’s Test
havioural Finance Bounded Rationality
Contingency Analysis Demographics
Goal Disposition Effect Diversification
elds Earnings Yield Efficient Frontier
ctor Analysis Financial Intermediaries
PORTFOLIO
Flows Futures Market Game Theory
SELECTION
Goal Programming Growth Investing
fference Curves Integer Programming
USING
MULTI-OBJECTIVE
s Psychology Kaiser-Meyer-Olkin Test
OPTIMISATION
sation Linear Programming Liquidity
garithmic Utility Market Capitalization
Momentum Investin8 Ordinal Ranking
Saurabh Agarwal
ory Privatisation Probability Theory
etric Analysis Quadratic Programming
rofiling Security Analysis Simulation
ampling Speculation Stock Exchanges
cal Analysis Utility Analysis Valuation
ing Vector Auto Regression Volatility
Portfolio Selection Using Multi-Objective
Optimisation
Saurabh Agarwal
Portfolio
Selection Using
Multi-Objective
Optimisation
Saurabh Agarwal
Indian Institute of Finance
Greater Noida
Uttar Pradesh
India
ISBN 978-3-319-54415-1 ISBN 978-3-319-54416-8 (eBook)
DOI 10.1007/978-3-319-54416-8
Library of Congress Control Number: 2017936929
© The Editor(s) (if applicable) and The Author(s) 2017
This work is subject to copyright. All rights are solely and exclusively licensed by the Publisher, whether
the whole or part of the material is concerned, specifically the rights of translation, reprinting, reuse
of illustrations, recitation, broadcasting, reproduction on microfilms or in any other physical way, and
transmission or information storage and retrieval, electronic adaptation, computer software, or by
similar or dissimilar methodology now known or hereafter developed.
The use of general descriptive names, registered names, trademarks, service marks, etc. in this
publication does not imply, even in the absence of a specific statement, that such names are exempt
from the relevant protective laws and regulations and therefore free for general use.
The publisher, the authors and the editors are safe to assume that the advice and information in this
book are believed to be true and accurate at the date of publication. Neither the publisher nor the
authors or the editors give a warranty, express or implied, with respect to the material contained herein
or for any errors or omissions that may have been made. The publisher remains neutral with regard to
jurisdictional claims in published maps and institutional affiliations.
Cover design by Tom Howey
Printed on acid-free paper
This Palgrave Macmillan imprint is published by Springer Nature
The registered company is Springer International Publishing AG
The registered company address is: Gewerbestrasse 11, 6330 Cham, Switzerland
Dedicated to my mother Prof. (Dr.) Manju Agarwal
and father Prof. (Dr.) J.D. Agarwal
Foreword
This work seeks to use the goal programming paradigm and original
investigations of investor behaviour to provide readers with a perspec-
tive on the multiple objective criteria of concern for portfolio selection
decisions under varying conditions of uncertainty. It is an excellent
resource for students, teachers, managers, and other members of the
academic community.
To support the book’s findings, Prof. Saurabh Agarwal provides a
thorough psychometric analysis to understand the retail investor’s atti-
tude. The methodology investigates the relationships among multiple
portfolio goals, constraints, macroeconomic factors, equity selection
and individual investor’s demographics. Surveys of both retail investors
and investment experts lend rigour to the analysis.
Professor Agarwal’s development of a financial model for portfolio
selection decisions with multiple objectives and constraints provides new
issues for the researchers to test and validate empirically. Such tests can
build on comparisons of this new financial model with existing models,
such as those of Lee and Lerro (1973) and Kumar, Philippatos and Ezzell
(1978) for optimising portfolio selection across multiple objectives. The
vii
viii Foreword
book’s links to such earlier models also demonstrate how this work is
integrated with and expands upon the current body of knowledge.
This addition to the knowledge base on portfolio selection builds on
the foundation laid in the 1950s by Nobel Laureate Harry Markowitz.
The result in this work is a new framework to build on existing method-
ology through the use of additional features of interest, such as outcome
quartiles and undesirable deviations from goals.
Much of the existing literature on portfolio selection has been based on
equilibrium models or on alternative representations of investor’s behaviour.
This book is a new and unique attempt to address the issue of portfolio
management from a comprehensive perspective of multiple objective crite-
ria while also reflecting many nuances of investor behaviour. Such a unified
approach to security analysis and portfolio management is commendable.
This book is written in a lucid, easy-to-understand, and interesting
manner. It lays a solid and enduring foundation for continued research
on this important topic and promises to be a useful addition to the col-
lections of individuals, advisors, libraries, economists, policy makers and
others interested in portfolio management.
John R. Birge
Jerry W. and Carol L. Levin Distinguished Service Professor of Operations
Management, The University of Chicago Booth School of Business
Preface
In the present aura of capital market changes, the development of tech-
niques and theories of portfolio selection so far has postulated attain-
ment of a single objective. Since, in the present state of emerging stock
market activity, while times and need change, so may the preferences
of investor groups change and the technique and/or theory of portfolio
selection decisions developed so far, postulating a single goal would be
of little relevance.
The rapid growth of the voluminous literature on portfolio selection
is indicative of widespread interest both among academic and busi-
ness communities. The path breaking works of Nobel Laureates Harry
Markowitz, William F. Sharpe and Robert C. Merton has evoked a seri-
ous interest of researchers globally in this field. The possibility of earn-
ing high returns by investing in equity portfolio is accompanied by high
return variability. However, managing this risk–return paradox by incor-
porating multi-objective criteria has largely remained unexplored in
current academic literature and hence provides the rationale for under-
taking research in this field. Using multi-objective portfolio selection
criteria, an investor is able to choose a “satisficing” portfolio within a
range of efficient portfolios lying in the feasible region. Therefore, there
ix
x Preface
is a need for developing a technique or theory of portfolio selection
decision, postulating a multi-objective set.
The primary objective of this work is to develop and suggest multi-
objective criteria to the problem of portfolio selection decision both
under the conditions of certainty and uncertainty by making use of the
potentials of the goal programming approach.
Investor profiling has been undertaken with the help of a self-
constructed close-ended questionnaire for retail investors. This ques-
tionnaire has helped in recording the psychological evidence on percep-
tion of individual investors. This cognitive resource records response to
the issues related to investor portfolio allocation, goals and constraints,
macroeconomic factors, equity selection and demographics. This book
presents techniques for undertaking individual investor’s profiling and
portfolio programming. While investor profiling analysis is statistical
in nature, portfolio programming is more mathematical in orientation.
Wherever possible, an attempt has been made to explain the concepts in
a simplified manner.
Most of the individual investors were found to pursue multiple goals.
Investors preferred investing in diversified equity mutual funds and sel-
dom invested in index funds. The empirical study revealed that four fac-
tors, namely Timing of Portfolio, Security from Portfolio, Knowledge
of Portfolio selection and Life Cycle Portfolio affect portfolio objectives.
2
While Contingency Analysis [Chi-Square (χ ) Test of Independence]
revealed the independence/dependence of the five hypotheses relating
portfolio variables such as gain sought, goals, constraints, macroeco-
nomic factors, market capitalisation and demographics. The empirical
analysis of the two questionnaires has helped in understanding the prac-
tical way of handling portfolio selection problems and in making some
generalisations.
The resultant portfolios from goal programming portfolio selec-
tion model have been compared graphically in risk–return space with
Markowitz’s efficient frontier. Also, Sharpe ratio (Sp), Treynor ratio
(Tp) and excess return to unsystematic risk ratio (VAp) have been
used for comparing the resultant eleven portfolios from Bombay
Stock Exchange (BSE) 30 Index. Quartile 3 (Q3)—Quartile 1 (Q1)
Minimum Un-desirable deviation model performed well on account
Preface xi
of multiple goals attainment and diversification but minutely violated
the budget constraint. Maximum Minimum exact goal achievement
model formulation was found suitable for risk lovers. Goal program-
ming portfolio selection model formulations were tested on monthly
and annual data of 11 years (1.4.1999–31.3.2010) for securities part
of BSE Sensex. The empirical results provide a solution to the multi-
objective optimisation problem even while there were conflicting
objectives and constraints. The goal programming model formulated
and applied would be of immense help in selecting an optimum solu-
tion and would be very relevant particularly to Foreign Institutional
Investors (FIIs), mutual funds and investors.
Uttar Pradesh, India Saurabh Agarwal