Stochastic Asset Allocation Models

Gavriel Yarmish¹, Robert Fireworker², Harry Nagel², Joe Thurm¹
(1. Department of Computer and Information Science, Brooklyn College, USA;
2. Decision Science, Tobin College of Business, St. John’s University, USA)

Abstract: This paper describes stochastic asset allocation models with a particular focus on the stochastic linear programming paradigm. After discussing the basic one-period risk/return tradeoff model, the concepts are extended to multiple period models. Mathematical solutions and their programming implementations are briefly presented. These programs can be both deterministic and stochastic. An explanation of how a stochastic linear program would be constructed for the asset allocation problem is presented with some real-world applications. These models are important for all sorts of financial companies including insurance companies, pension managers, credit unions and portfolio managers. Knowledge of these techniques will enhance the financial decision making capability of any company.

Key words: Linear Programming; Asset Allocation; Stochastic; Monte Carlo

JEL codes: C44