A1834
Title: The economic value of reward-to-risk timing strategies using return-decomposition GARCH models
Authors: Arsene Brou - Laval University (Canada) [presenting]
Richard Luger - Laval University (Canada)
Abstract: In portfolio management, reward-to-risk timing strategies require estimates of expected returns in addition to volatility estimates. To address this need, a new GARCH-type model is proposed based on a decomposition of returns into their signs and absolute values. The conditional volatility is determined by innovations following a folded normal distribution and the conditional mean depends on the skewness dynamics implied by the interaction between the multiplicative sign and absolute return components. The out-of-sample performance of this approach is compared with the naive diversification rule, the plug-in approach, and other GARCH-type specifications. The empirical analysis of daily stock returns demonstrates the economic value of exploiting the implied time-varying skewness for reward-to-risk timing strategies.
