Weak Signals, Small Bets: A Portfolio Perspective on Firm Characteristics
Abstract
We compare sparse selection and continuous shrinkage for portfolio construction when many noisy characteristics compete for allocation. Transaction costs make this choice a first-order economic decision. Before costs, both outperform passive benchmarks, and sparsity is merely suboptimal. After costs, the turnover from a few large bets pushes sparse portfolios below the threshold where active management is profitable, while broader exposure across many small bets through shrinkage preserves net-of-cost gains. Costs change the sign of sparsity’s payoff even as the distance between approaches narrows. The ranking is robust across investment universes, market conditions, priors, and alternative cost definitions.
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Awards
REAG Investimentos Best Articles Award, XXV Brazilian Finance Meeting at INSPER.
Presentations
Alpine Finance Summit (scheduled), Barcelona Workshop in Financial Econometrics, 11th Italian Congress of Econometrics and Empirical Economics, XXV Brazilian Finance Meeting at INSPER.
Citation
Bianchi, Daniele, and Pedro H. M. Venturi. Weak Signals, Small Bets: A Portfolio Perspective on Firm Characteristics. Working paper.
@article{bianchi2024weak,
title={Weak Signals, Small Bets: A Portfolio Perspective on Firm Characteristics},
author={Bianchi, Daniele and Venturi, Pedro},
journal={Available at SSRN 5035861},
year={2024}
}