Bridge over ocean
1 September 1992 Financial Analysts Journal Volume 48, Issue 5

Global Portfolio Optimization

  1. Fischer Black
  2. Robert Litterman, PHD

Quantitative asset allocation models have not played the important role they should in global portfolio management. A good part of the problem is that such models are difficult to use and tend to result in portfolios that are badly behaved.

Consideration of the global CAPM equilibrium can significantly improve the usefulness of these models. In particular, equilibrium returns for equities, bonds and currencies provide neutral starting points for estimating the set of expected excess returns needed to drive the portfolio optimization process. This set of neutral weights can then be tilted in accordance with the investor's views.

If the investor has no particular views about asset returns, he can use the neutral values given by the equilibrium model. If the investor does have one or more views about the relative performances of assets, or their absolute performances, he can adjust equilibrium values in accordance with those views. Furthermore, the investor can control how strongly a particular view influences portfolio weights, in accordance with the degree of confidence with which he holds the view.

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