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FRAPO (version 0.4-2)

DivMeasures: Diversification Measures

Description

These functions compute the diversification ratio, the volatility weighted average correlation and concentration ratio of a portfolio.

Usage

dr(weights, Sigma)
cr(weights, Sigma)
rhow(weights, Sigma)

Value

numeric, the value of the diversification measure.

Arguments

weights

Vector: portfolio weights.

Sigma

Matrix: Variance-covariance matrix of portfolio assets.

Author

Bernhard Pfaff

Details

The diversification ratio of a portfolio is defined as:

$$DR(\omega) = \frac{\sum_{i = 1}^N \omega_i \sigma_i}{\sqrt{\omega' \Sigma \omega}} $$

for a portfolio of \(N\) assets and \(\omega_i\) signify the weight of the i-th asset and \(\sigma_i\) its standard deviation and \(\Sigma\) the variance-covariance matrix of asset returns. The diversification ratio is therefore the weighted average of the assets' volatilities divided by the portfolio volatility.

The concentration ration is defined as:

$$CR = \frac{\sum_{i = 1}^N (\omega_i \sigma_i)^2}{(\sum_{i = 1}^N \omega_i \sigma_i)^2} $$

and the volatility-weighted average correlation of the assets as:

$$\rho(\omega) = \frac{\sum_{i > j}^N (\omega_i \sigma_i \omega_j \sigma_j)\rho_{ij}}{\sum_{i > j}^N (\omega_i \sigma_i \omega_j \sigma_j)} $$

The following equation between these measures does exist:

$$DR(\omega) = \frac{1}{\sqrt{\rho(\omega) (1 - CR(\omega)) + CR(\omega)}}$$

References

Choueifaty, Y. and Coignard, Y. (2008): Toward Maximum Diversification, Journal of Portfolio Management, Vol. 34, No. 4, 40--51.

Choueifaty, Y. and Coignard, Y. and Reynier, J. (2011): Properties of the Most Diversified Portfolio, Working Paper, https://papers.ssrn.com

See Also

PMD

Examples

Run this code
data(MultiAsset)
Rets <- returnseries(MultiAsset, method = "discrete", trim = TRUE)
w <- Weights(PMD(Rets))
V <- cov(Rets)
DR <- dr(w, V)
CR <- cr(w, V)
RhoW <- rhow(w, V)
test <- 1 / sqrt(RhoW * (1 - CR) + CR)
all.equal(DR, test) 

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