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Background Risk Models and Stepwise Portfolio Construction

Asimit, A.V., Vernic, R. & Zitikis, R. (2016). Background Risk Models and Stepwise Portfolio Construction. Methodology and Computing in Applied Probability, 18(3), pp. 805-827. doi: 10.1007/s11009-015-9458-3


Assuming the multiplicative background risk model, which has been a popular model due to its practical applicability and technical tractability, we develop a general framework for analyzing portfolio performance based on its subportfolios. Since the performance of subportfolios is easier to assess, the herein developed stepwise portfolio construction (SPC) provides a powerful alternative to a number of traditional portfolio construction methods. Within this framework, we discuss a number of multivariate risk models that appear in the actuarial and financial literature. We provide numerical and graphical examples that illustrate the SPC technique and facilitate our understanding of the herein developed general results.

Publication Type: Article
Additional Information: The final publication is available at Springer via
Publisher Keywords: Portfolio construction, Background risk, Systemic risk, Laplace transform, Risk management, Capital allocation
Subjects: H Social Sciences > HD Industries. Land use. Labor > HD61 Risk Management
Q Science > QA Mathematics
Departments: Bayes Business School > Actuarial Science & Insurance
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