The Portfolio Strategy and Hedging: a Spectrum Perspective on Mean-Variance Theory

Abstract

This paper aims to establish a portfolio strategy using information of lead–lag relationship. The efficient frontier in mean–variance theory has confirmed that the spectrum strategy established by the lead–lag relationship yields superior performance assuming the same volatility. And then we construct the spectrum portfolios based on two approaches: a recursive approach, which uses a recursive method in the lead–lag relationship, and a joint approach, which combines two lead–lag relationships. The effect of the spectrum strategy using mutual fund data from 1999 through 2009 is examined. The results indicate that the spectrum portfolio has a superior performance as compared to the benchmark with both approaches. Furthermore, the spectrum portfolio by recursive approach maintains superior performance in hedging.