Portfolio Insurance Strategies

Abstract

At first the paper shortly characterizes basic classes of such portfolioinsurance strategies as constant proportion portfolio insurance (CPPI)and option based or volatility based portfolio insurance that providethe investor an ability to limit downside risk while allowing someparticipation in upside markets. The paper presents CPPI as the methodfor dynamic asset allocation over time where investor chooses a floorequal to the lowest guaranteed value of the portfolio, computes thecushion which is equal to the excess of the portfolio value over thefloor and determines amount allocated to the risky asset by multiplyingthe cushion by the predetermined multiplier. Then some extensions ofdiscrete CPPI methods that introduce risk budget, a stop loss rule,locking of the guaranteed value, the asset management fee and riskmeasures in the multiplier are presented and illustrated. As the resultuser procedures in Excel environment that automatize the process ofguaranteed strategies construction were developed. Theoreticalguaranteed strategies are finally modified to operational strategies onthe base of transaction costs implementation. Daily historical data wereused to test the strategies and to compare them with the standard CPPImethod and some naive investment strategies.