Comparing Return-Risk and Direct Utility Maximization Portfolio Optimization Methods by ‘Certainty Equivalence Curves’

Abstract

Mean-Risk portfolio optimization method proposes an efficient frontier that consists of portfolios not dominated by any portfolio. Consequently, this method reduces the choice set by excluding inefficient portfolios. Different risk measures offer different efficient frontiers, which can be interpreted as different optimal choice sets. The question is whether these different risk measures lead to significantly different efficient frontiers for the investors, and which risk measure should be used.My purpose is to present a method to assess the effect of the choice set reduction from Therefore, it is not recommended to use more complicated methods such as Mean-CVaR.