Optimal Portfolios under Time-Varying Investment Opportunities, Parameter Uncertainty and Ambiguity Aversion

Thomas Dangl and Alex Weissensteiner

We study the implications of predictability on the optimal asset allocation of ambiguity-averse long-term investors and analyze the term structure of the multivariate risk-return trade-off considering parameter uncertainty. We calibrate the model to real returns of US stocks, long-term bonds, cash, real estate, and gold using the term spread and the dividend-price ratio as additional predictive variables, and we show that over long horizons the optimal asset allocation is significantly influenced by the covariance structure induced by estimation errors. The ambiguity-averse long-term investor optimally tilts her portfolio toward a seemingly inefficient portfolio, which shows maximum robustness against estimation errors.