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Analysis of the rebalancing frequency in log-optimal portfolio selection

[journal article]

Kuhn, Daniel; Luenberger, David G.

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Abstract In a dynamic investment situation, the right timing of portfolio revisions and adjustments is essential to sustain long-term growth. A high rebalancing frequency reduces the portfolio performance in the presence of transaction costs, whereas a low rebalancing frequency entails a static investment strategy that hardly reacts to changing market conditions. This article studies a family of portfolio problems in a Black-Scholes type economy which depend parametrically on the rebalancing frequency. As an objective criterion we use log-utility, which has strong theoretical appeal and represents a natural choice if the primary goal is long-term performance. We argue that continuous rebalancing only slightly outperforms discrete rebalancing if there are no transaction costs and if the rebalancing intervals are shorter than about one year. Our analysis also reveals that diversification has a dual effect on the mean and variance of the portfolio growth rate as well as on their sensitivities with respect to the rebalancing frequency.
Classification Financial Planning, Accountancy; Economic Statistics, Econometrics, Business Informatics
Method theory application
Document language English
Publication Year 2010
Page/Pages p. 221-234
Journal Quantitative Finance, 10 (2010) 2
Status Postprint; peer reviewed
Licence PEER Licence Agreement (applicable only to documents from PEER project)