PUB - Publikationen an der Universität Bielefeld

This paper sets out a basic framework for solving a stochastic portfolio problem using dynamic programming (DP). Dynamic portfolio decisions are concerned with simultaneous decisions on savings and asset allocation whereby asset returns, such as on equity and bonds, are stochastic as in Campbell and Viceira (Strategic asset allocation, portfolio choice for long-term investors, 2002). In contrast to CV (2002) we do not use a local approximation method to solve the stochastic model but rather use a global solution procedure such as DP. Whereas CV (2002) solve their model by assuming a constant consumption-wealth ratio and equity premium, we can allow both to be time varying. Different variances of equity and bond returns are explored in their impact on saving and asset allocation decisions and on the value function. The stochastic dynamic portfolio decision method proposed here allows for online decisions as data on asset returns are available in real time. The method is set up in a way such that it also helps to make fund decisions online for various types of investment opportunities.