Portfolio Construction and Tail Risk

In the wake of the financial crisis, investors are increasingly concerned with ways to mitigate extreme losses. We analyze various approaches to enhancing traditional portfolio construction with tail-risk control. Interestingly, we find investors have better managed tail-risk using a minimum-volatility overlay strategy than explicitly penalizing extreme losses via conditional value-at-risk (CVaR). From a practical perspective, this solution can be cheap and easy to implement because it will not result in a rebalancing of the fund, and various minimum-volatility products are readily available on the market