Risk Reduction in Large Portfolios : Why Imposing the Wrong Constraints Helps

  title={Risk Reduction in Large Portfolios : Why Imposing the Wrong Constraints Helps},
  author={Ravi Jagannathan and Tongshu Ma},
Green and Hollifield (1992) argue that the presence of a dominant factor is why we observe extreme negative weights in mean-variance-efficient portfolios constructed using sample moments. In that case imposing no-shortsale constraints should hurt whereas empirical evidence is often to the contrary. We reconcile this apparent contradiction. We explain why constraining portfolio weights to be nonnegative can reduce the risk in estimated optimal portfolios even when the constraints are wrong… CONTINUE READING
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