Market Timing in Bayesian Portfolio Optimization

I propose a portfolio allocation model that combines a data-based approach with macroeconomic considerations of the business cycle. It accounts for the two key features of business cycles, namely co-movement among macroeconomic variables and asymmetric development of the cycles. The joint treatment of these characteristics improves the ability of the model to time market turns, consequently enhancing portfolio gains. The estimation technique developed allows to simultaneously address the issues of parameter uncertainty, mispricing uncertainty and the uncertainty relative to structural instability within a Bayesian portfolio optimization problem.