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Mean-Absolute Deviation Portfolio Optimization Model and Its Applications to Tokyo Stock Market

Author

Listed:
  • Hiroshi Konno

    (Institute of Human and Social Sciences, Tokyo Institute of Technology, Tokyo, Japan)

  • Hiroaki Yamazaki

    (Department of Social Engineering, Tokyo Institute of Technology, Tokyo, Japan)

Abstract
The purpose of this paper is to demonstrate that a portfolio optimization model using the L 1 risk (mean absolute deviation risk) function can remove most of the difficulties associated with the classical Markowitz's model while maintaining its advantages over equilibrium models. In particular, the L 1 risk model leads to a linear program instead of a quadratic program, so that a large-scale optimization problem consisting of more than 1,000 stocks may be solved on a real time basis. Numerical experiments using the historical data of NIKKEI 225 stocks show that the L 1 risk model generates a portfolio quite similar to that of the Markowitz's model within a fraction of time required to solve the latter.

Suggested Citation

  • Hiroshi Konno & Hiroaki Yamazaki, 1991. "Mean-Absolute Deviation Portfolio Optimization Model and Its Applications to Tokyo Stock Market," Management Science, INFORMS, vol. 37(5), pages 519-531, May.
    • Handle: RePEc:inm:ormnsc:v:37:y:1991:i:5:p:519-531
    DOI: 10.1287/mnsc.37.5.519
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    File URL: http://dx.doi.org/10.1287/mnsc.37.5.519
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    More about this item

    Keywords

    portfolio optimization; L1 risk function; linear programming; Markowitz's model; single-factor model;
    All these keywords.

    JEL classification:

    • L1 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance

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