SEMINAR OF THE THEMATIC PROJECT

SEMINAR OF THE THEMATIC PROJECT

Speaker: Christian Brownlees (Universitat Pompeu Fabra)

Title: How to bet on winners

Abstract: We study the construction of long-short portfolios on the basis of cross-sectional stock return predictions. We derive optimal portfolio construction procedures for a number of loss functions. The optimal procedure takes the form of a return classification rule. Selecting stocks on the basis of expected return predictions, the standard practice in the literature, is also optimal in special cases of the general framework. The empirical analysis shows that the new procedures allow to extract more economic value out of the predictive signals of machine learning methods. The favourable performance persists among large capitalization stocks and accounting for transaction costs.