Portfolio Optimization: A Return-on-Equity Network Analysis

This article proposes return-on-equity (ROE) networks for portfolio optimization, which integrate the DuPont analysis and graph theory. Portfolio diversification is interpreted as follows: An intercluster relationship of the network structure diversifies business models, whereas an innercluster relationship variegates different industries. The proposed approach is applied to the Chinese stock market. It shows that, in terms of the annualized return, the ROE network optimized portfolio reached 13.20% compared with 6.02% of the Shanghai Stock Exchange (SSE) Composite Index. It also shows that portfolios with 100-200 stocks, which are composed of the top 10%-20% ROE stocks, reached the highest return-risk efficiency.

Duke Scholars

Author Zhongyuan Yu Social Science Research Institute