Portfolios - EDHEC-Risk

Tracking Error Constraints
• If we subject active managers to TE control, why not expect the
same requirements from alternative benchmarks?
• To control tracking error, one may perform a maximum Sharpe
ratio or minimum variance portfolio optimization subject to
tracking error constraints.
• This is an inefficient approach, inconsistent with the fund
separation theorems that lie at the foundation of asset pricing
theory, and which suggests instead to use a core-satellite
approach.
• In fact, the two approaches are not strictly mutually exclusive.
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