Index tracking with utility enhanced weighting

Article


Clark, E., Deshmukh, N., Güran, C. and Kassimatis, K. 2019. Index tracking with utility enhanced weighting. Quantitative Finance. 19 (11), pp. 1893-1904. https://doi.org/10.1080/14697688.2019.1605189
TypeArticle
TitleIndex tracking with utility enhanced weighting
AuthorsClark, E., Deshmukh, N., Güran, C. and Kassimatis, K.
Abstract

Passive index investing involves investing in a fund that replicates a market index. Enhanced indexation uses the returns of an index as a reference point and aims at outperforming this index. The motivation behind enhanced indexing is that the indices and portfolios available to academics and practitioners for asset pricing and benchmarking are generally inefficient and, thus, susceptible to enhancement. In this paper we propose a novel technique based on the concept of cumulative utility area ratios and the Analytic Hierarchy Process (AHP) to construct enhanced indices from the DJIA and S&P500. Four main conclusions are forthcoming. First, the technique, called the utility enhanced tracking technique (UETT), is computationally parsimonious and applicable for all return distributions. Second, if desired, cardinality constraints are simple and computationally parsimonious. Third, the technique requires only infrequent rebalancing, monthly at the most. Finally, the UETT portfolios generate consistently higher out-of-sample utility profiles and after-cost returns for the fully enhanced portfolios as well as for the enhanced portfolios adjusted for cardinality constraints. These results are robust to varying market conditions and a range of utility functions.

KeywordsInvestments; Portfolio allocation; Asset management ; Utility functions; Index tracking; AHP
LanguageEnglish
PublisherTaylor & Francis (Routledge)
JournalQuantitative Finance
ISSN1469-7688
Electronic1469-7696
Publication dates
Online11 Jun 2019
Print02 Nov 2019
Publication process dates
Deposited09 Apr 2019
Accepted29 Mar 2019
Accepted author manuscript
Copyright Statement

This is an Accepted Manuscript of an article published by Taylor & Francis in Quantitative Finance on 11/06/2019, available online: http://www.tandfonline.com/10.1080/14697688.2019.1605189

Digital Object Identifier (DOI)https://doi.org/10.1080/14697688.2019.1605189
Web of Science identifierWOS:000472414200001
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