Large-scale Time-Varying Portfolio Optimisation using Graph Attention Networks

• URL: http://arxiv.org/abs/2407.15532v1
• Date: Mon, 22 Jul 2024 10:50:47 GMT
• Title: Large-scale Time-Varying Portfolio Optimisation using Graph Attention Networks
• Authors: Kamesh Korangi, Christophe Mues, Cristián Bravo,
• Abstract summary: This is the first study to incorporate risky firms and use all the firms in portfolio optimisation. We propose and empirically test a novel method that leverages Graph Attention networks (GATs) GATs are deep learning-based models that exploit network data to uncover nonlinear relationships.
• Score: 4.2056926734482065
• License: http://creativecommons.org/licenses/by-nc-nd/4.0/
• Abstract: Apart from assessing individual asset performance, investors in financial markets also need to consider how a set of firms performs collectively as a portfolio. Whereas traditional Markowitz-based mean-variance portfolios are widespread, network-based optimisation techniques have built upon these developments. However, most studies do not contain firms at risk of default and remove any firms that drop off indices over a certain time. This is the first study to incorporate risky firms and use all the firms in portfolio optimisation. We propose and empirically test a novel method that leverages Graph Attention networks (GATs), a subclass of Graph Neural Networks (GNNs). GNNs, as deep learning-based models, can exploit network data to uncover nonlinear relationships. Their ability to handle high-dimensional features and accommodate customised layers for specific purposes makes them particularly appealing for large-scale problems such as mid- and small-cap portfolio optimization. This study utilises 30 years of data on mid-cap firms, creating graphs of firms using distance correlation and the Triangulated Maximally Filtered Graph approach. These graphs are the inputs to a GAT model that we train using custom layers which impose weight and allocation constraints and a loss function derived from the Sharpe ratio, thus directly maximising portfolio risk-adjusted returns. This new model is benchmarked against a network characteristic-based portfolio, a mean variance-based portfolio, and an equal-weighted portfolio. The results show that the portfolio produced by the GAT-based model outperforms all benchmarks and is consistently superior to other strategies over a long period while also being informative of market dynamics.

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