THE DIVERGENCE OF HIGH- AND LOW-FREQUENCY ESTIMATION: CAUSES AND CONSEQUENCES
A QWAFAFEW discussion led by:
MARK KRITZMAN, CFA
With an assist from David Turkington, CFA
Financial analysts typically estimate standard deviations and correlations from monthly or higher-frequency returns when determining the optimal composition of a portfolio. Although it is widely acknowledged that these measures are not necessarily stationary across samples, most analysts assume implicitly that, within sample, standard deviations scale with the square root of time and correlations estimated from high-frequency returns are similar to correlations estimated from low-frequency returns. Evidence does not support this view. Instead, evidence shows that relative asset values often evolve through time in ways that are highly inconsistent with their high-frequency standard deviations and correlations. As a consequence, portfolios that are optimal based on high-frequency returns often lead to significantly sub-optimal results for investors with long horizons. We analyze the causes and consequences of this discrepancy, and we present a framework for constructing portfolios that balance short-horizon and long-horizon optimality. We also discuss the implications of divergence on performance measurement.
MARK KRITZMAN is President and CEO of Windham Capital Management, LLC and the Chairman of Windham’s investment committee. He is responsible for managing research activities and investment advisory services. He is also a Founding Partner of State Street Associates, and he teaches a graduate finance course at the Massachusetts Institute of Technology.
Mark served as a Founding Director of the International Securities Exchange and has served on several boards, including the Institute for Quantitative Research in Finance, The Investment Fund for Foundations, and State Street Associates. He is also a member of several advisory and editorial boards, including the Center for Asset Management at Boston College, the Advisory Board of the MIT Sloan Finance Group, the Consortium for Systemic Risk Analytics, the Emerging Markets Review, the Financial Analysts Journal, the Journal of Alternative Investments, the Journal of Derivatives, the Journal of Investment Management, where he is Book Review Editor, and The Journal of Portfolio Management. He has written numerous articles for academic and professional journals and is the author of six books including Puzzles of Finance and The Portable Financial Analyst.
Mark won Graham and Dodd scrolls in 1993 and 2002, the Research Prize from the Institute for Quantitative Investment Research in 1997, the Bernstein-Fabozzi/Jacobs-Levy Award in 2003, 2006, 2010, and 2013, the Roger F. Murray Prize from the Q-Group in 2012, and the Peter L. Bernstein Award in 2013 for Best Paper in an Institutional Investor Journal. In 2004, Mark was elected a Batten Fellow at the Darden Graduate School of Business Administration, University of Virginia.
Mark has a BS in economics from St. John’s University, an MBA with distinction from New York University, and a CFA designation.
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