William Hakes- Management Science Article Summary I

 

 

1)      “Risk Constrained Dynamic Active Portfolio Management.” Management Science; 2000 INFORMS; Sid Browne. Volume 46 Issue 9, pp. 1188-1199.

2)      Dr. Sid Browne, Goldman Sachs and Co., Firmwide Risk Management.  Graduate School of Business, Columbia University sb30@columbia.edu.

3)      Can a model be developed (and deemed superior to other competing models) that minimizes the expected time to beat an investment benchmark subject to financial shortfall constraints?

4)      Basic Theoretical:  This paper advances the theories of asset allocation and risk sensitivity by developing a model that might be used to manage a portfolio for specific actors, but at this stage, this research is a building block, and thus is designed for those in the research community.

5)      Traditional optimization methods include a basic mean-variance framework along the lines of Markowitz and Sharpe.  These models assume that rational actors all choose the same criteria for optimal investments.  More recent models have been developed which challenge the behavioral and economic validity of this framework.  This paper challenges the basic mean-variance optimization with a model that assigns relative risk to each investor.  In this case, risk is defined as the probability of “shortfall” with respect to a portfolio benchmark, relative to the return defined as the expected time it takes to reach a specific investment goal.  In this case, the model was developed successfully.  This model now allows for a more reasonable risk/reward optimization, one in which relative factors are considered rather than absolute criteria.  This should further the literature intended to focus more on idiosyncratic objectives versus “rational” optimization criteria.

6)      As the mathematics is quite difficult, this article would likely only appeal to academics and perhaps highly quantitative practitioners. 

7)      I doubt that I will publish an article with this degree of mathematical rigor.  While I hope to take such papers, and others that advance these ideas, and implement them into practical management, I am unlikely to develop the mathematical training necessary to derive such complex quantitative theory.