342 THE HANDBOOK OF PORTFOLIO MATHEMATICS
Now we can plug these values into Equation (10.08). Notice that
n
MAX
i= 1
is
$2,500, since the only otherf$ is $1,500, which is less. Thus:
L=
2500
1 ∗ 11000 + 1. 67 ∗ 2000
=
2500
11000 + 3340
=
2500
14, 340
= 17 .43375174%
This tells us that 17.434% should be our maximum upside percentage.
Now, suppose we had a $100,000 account. If we were at 17.434% active
equity, we would have $17,434 in active equity. Thus, assuming we can trade
in fractional units for the moment, we would buy 6.9736 (17,434/2,500) of
Spectrum A and 11.623 (17,434/1,500) of Spectrum B. The margin require-
ments on this would then be:
6. 9726 ∗ 11, 000=76, 698. 60
11. 623 ∗ 2, 000=23, 245. 33
−−−−−−−−
Total Margin Requirement=$99, 943. 93
If, however, we are still employing a static fractionalfstrategy (despite
this author’s protestations), then the highest you should set that fraction is
17.434%. This will result in the same margin call as above.
Notice that using Equation (10.08) yields the highest fraction forfwith-
out incurring an initial margin call that gives you the same ratios of the
different market systems to one another.
Earlier in the text we saw that adding more and more market systems
(scenario spectrums) results in higher and higher geometric means for the
portfolio as a whole. However, there is a trade-off in that each market sys-
tem adds marginally less benefit to the geometric mean, but marginally more
detriment in the way of efficiency loss due to simultaneous rather than se-
quential outcomes. Therefore, we have seen that you do not want to trade
an infinitely high number of scenario spectrums. What’s more, theoretically
optimal portfolios run into the real-life application problem of margin con-
straints. In other words, you are usually better off to trade three scenario
spectrums at the full optimalflevels than to trade 10 at dramatically re-
duced levels as a result of Equation (10.08). Usually, you will find that the
optimal number of scenario spectrums to trade in, particularly when you
have many orders to place and the potential for mistakes, is but a handful.
fShift and Constructing a Robust Portfolio CONTENTS xi
ROBUST PORTFOLIO
There is a polymorphic nature to the n+1 dimensional landscape; that is, the
landscape is undulating—the peak in the landscape tends to move around
as the markets and techniques we use to trade them change in character.
