Downside Volatility-Managed Portfolios

Abstract

Downside volatility and volatility typically co-move but are not highly correlated during the most volatile times. The authors show that portfolios scaled by downside volatility expand the ex post mean–variance frontiers constructed using the original portfolios and volatility-managed portfolios and improve the Sharpe ratios of the ex post tangency portfolios. Their results follow from the empirical finding that downside volatility-managed portfolios are not spanned by the original portfolios or volatility-managed portfolios. Whereas downside volatility-managed portfolios expand the investment opportunity set, upside volatility-managed portfolios do not.

TOPICS: Volatility measures, portfolio theory

Key Findings

• • Downside volatility and volatility do not always comove.

• • Downside volatility-managed portfolios expand the investor’s opportunity set.

• • Upside volatility does not appear to help in portfolio management.