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Extreme Events and Portfolio Construction [28]

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Bullet points include: Adds a lot of mathematical complexity including dependency on how reliably you can tell which ‘regime’ you are in and what its characteristics are. Asset allocation problem becomes more utility dependent. The overall conditional distributional form is no longer multivariate Normal; The investor’s utility function is no longer equivalent, in terms of the portfolio weights derived from it, to a quadratic utility function (means and covariance matrix) as per traditional mean-variance optimisation. If your utility function is more complex then so will be those of others, making them more sensitive to behavioural factors, and making it more difficult to predict how they might change through time

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