Journal of Finance and Investment Analysis

Portfolio insurance strategies in a low interest rate environment: A simulation based study

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  • Abstract 

    The aim of this study is to ascertain through a simulation process how low and even negative interest rates affect the performance of different portfolio insurance (PI) methodologies and which concepts are successful in different assumed scenarios. In the past, many papers have been published providing empirical evidence on the benefits of PI strategies in different markets. However, hardly any paper focuses on the impact of low interest rates on the performance of PI strategies although interest rates are currently at an all-time low throughout the OECD. In this paper we run Monte Carlo simulations for the buy-and-hold (B&H), Constant Mix, Stop Loss, Constant Proportion Portfolio Insurance (CPPI), and Time Invariant Portfolio Protection (TIPP) strategies. We show that lower interest rates have an impact on the ranking of these strategies according to different performance measures such as Sharpe Ratio, Treynor Ratio, Sortino Ratio, or Lower Partial Moment (LPM) performance measures. B&H and Constant Mix perform relatively well in respect of the Sharpe and Treynor Ratio. However, when considering the Sortino Ratio or LPM performance measures these concepts are particularly badly affected by the reduction in interest rates, especially when it comes to negative rates. Here, the strength of the CPPI strategy becomes obvious.

    JEL classification number: G11
    Keywords: Portfolio insurance, Constant Proportion Portfolio Insurance, CPPI, Time Invariant Portfolio Protection, TIPP, Buy-and-Hold, Constant Mix, Stop Loss, downside protection, Monte Carlo Simulation