Optimal investment under transaction costs: A threshold rebalanced portfolio approach
Author
Tunc, S.
Donmez, M. A.
Kozat, S. S.
Date
2013Source Title
IEEE Transactions on Signal Processing
Print ISSN
1053-587X
Publisher
IEEE
Volume
61
Issue
12
Pages
3129 - 3142
Language
English
Type
ArticleItem Usage Stats
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Abstract
We study how to invest optimally in a financial market having a finite number of assets from a signal processing perspective. Specifically, we investigate how an investor should distribute capital over these assets and when he/she should reallocate the distribution of the funds over these assets to maximize the expected cumulative wealth over any investment period. In particular, we introduce a portfolio selection algorithm that maximizes the expected cumulative wealth in i.i.d. two-asset discrete-time markets where the market levies proportional transaction costs in buying and selling stocks. We achieve this using 'threshold rebalanced portfolios', where trading occurs only if the portfolio breaches certain thresholds. Under the assumption that the relative price sequences have log-normal distribution from the Black-Scholes model, we evaluate the expected wealth under proportional transaction costs and find the threshold rebalanced portfolio that achieves the maximal expected cumulative wealth over any investment period. Our derivations can be readily extended to markets having more than two stocks, where these extensions are provided in the paper. As predicted from our derivations, we significantly improve the achieved wealth with respect to the portfolio selection algorithms from the literature on historical data sets under both mild and heavy transaction costs.
Keywords
Continuous distributionDiscrete-time market
Portfolio management
Threshold rebalancing
Continuous distribution
Discrete-time market
Portfolio managements
Rebalancing
Transaction cost
Algorithms
Commerce
Costs
Financial data processing
Sequential switching
Signal processing
Investments