Optimal Tilts: Combining Persistent Characteristic Portfolios

Abstract

We examine the optimal weighting of four tilts in U.S. equity markets from 1968 through 2014. We define a “tilt” as a characteristic-based portfolio strategy that requires relatively low annual turnover. This is a continuum, with small size (a very persistent characteristic) at one end of the spectrum and high frequency reversal at the other. Unlike low-turnover tilts, a full history of transaction costs is essential for determining the expected return of, and hence the optimal allocation to, less persistent, more turnover-intensive characteristics. The mean-variance optimal tilts toward value, size, and profitability are roughly equal to each other and equal to the optimal low-beta tilt. Notably, the low-beta tilt is not subsumed by the other three.