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Target volatility strategies: optimal rebalancing boundary for transaction cost minimization

Zefeng Bai et al.

Financial Markets and Portfolio Management2025https://doi.org/10.1007/s11408-025-00486-5article
AJG 2ABDC B
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0.50

Abstract

Transaction costs are a major factor affecting portfolio returns in asset management. We propose an enhanced target volatility strategy to reduce the deleterious effect of transaction costs by adding rebalancing boundaries to the target volatility asset allocation mechanism. We formulate a constrained optimization problem to determine the optimal rebalancing boundary level. Based on simulations using an overlapping block bootstrap approach, we find that the extended target volatility portfolio with rebalancing boundary levels can provide better investment outcomes (higher portfolio returns and reduced transaction costs) without losing the ability to control portfolio risk under a pre-determined threshold. Further computational analysis on different real market scenarios confirms these findings and allows us to summarize insights on the appropriate boundaries to use under different market conditions and transaction cost magnitudes. Our findings have important practical implications given the popularity of the target volatility investment strategy as well as other asset management concepts with a dynamic asset allocation mechanism.

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https://doi.org/https://doi.org/10.1007/s11408-025-00486-5

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@article{zefeng2025,
  title        = {{Target volatility strategies: optimal rebalancing boundary for transaction cost minimization}},
  author       = {Zefeng Bai et al.},
  journal      = {Financial Markets and Portfolio Management},
  year         = {2025},
  doi          = {https://doi.org/https://doi.org/10.1007/s11408-025-00486-5},
}

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