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Tailor-made thematic portfolios: a core satellite optimization

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Abstract

In recent years, thematic exchange-traded funds have arisen and broaden the narrow thinking of purely monetary driven investment decisions. Ethical concerns, a stronger belief in society-shaped trends, or the conformity with personal convictions motivate investors to include non-monetary objectives in so called thematic funds. Thematic investors follow a modified core satellite strategy in which conventional funds ensure diversification. Investors’ non-monetary interests manifest within additional satellite funds. Both portfolios are separately allocated so that inter-portfolio correlation effects are not considered and inefficient core satellite portfolios are allocated. However, in order to reduce the inefficiency of such a core satellite strategy, this study addresses fund providers and develops the idea of tailoring thematic funds to conventional ones. An empirical investigation shows that by easing the efficiency constraint for the satellite portfolio, correlation effects between the portfolios can be exploited. At the expense of an average relative volatility increase of 4.55%, the inefficiency of core satellite portfolios can be reduced by an average of 11.74% compared to volatilities of efficient tri-criterion portfolios. Further analysis of these thematic products shows that tailored products can also be more concentrated within a given theme. This opens up new opportunities for fund providers to become more involved in various thematic trends and at the same time achieve better performance for core satellite investors.

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Notes

  1. This is only a notation for simplicity in line with several studies and is not be understood as quasi code [13, 16, 23].

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Authors and Affiliations

  1. Decision Theory and Financial Services, RWTH Aachen University, Templergraben 64, 52062, Aachen, Germany

    Florian Methling & Rüdiger von Nitzsch

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  1. Florian Methling
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  2. Rüdiger von Nitzsch
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Correspondence to Florian Methling.

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Appendix: Simulation histograms

Appendix: Simulation histograms

figure a

Histograms show the results of the simulation with 3826 assets and a random evaluation of thematic assets for different amounts of conventional assets nC. Within the histograms, the different lines show each 1000 results concerning different amounts of thematic assets. Histogram “All” summarizes the 25,000 results of the five previous histograms.

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Methling, F., von Nitzsch, R. Tailor-made thematic portfolios: a core satellite optimization. J Glob Optim 76, 317–331 (2020). https://doi.org/10.1007/s10898-019-00781-2

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