Portfolio selection with transaction costs

What is it about?

Accounting for the effect of transaction costs within conventional portfolio selection rules typically poses technical difficulty. In this paper I propose a new portfolio rule for portfolio selection problems in the presence of transaction costs. The new portfolio rule is formed by combining an extant portfolio rule with the no-rebalancing portfolio rule, which speci…es the current portfolio weights before rebalancing as the desired portfolio weights. The new rule can overcome the technical difficulty posed by transaction costs to take into account of the effect of transaction costs.

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Why is it important?

The new portfolio rule can be applied into most extant portfolio rules. Simulation and out-of-sample evidence show that the new portfolio rule can greatly improve portfolio performance, in comparison to the extant portfolio rules to be combined.