[R-SIG-Finance] solnp Problem Inverting Hessian
Paul Gilbert
pgilbert902 at gmail.com
Tue Dec 15 15:57:44 CET 2015
I have not been paying close attention and I've missed something in this
thread, but ...
I think the hessian in the optimization will be the second derivative of
this function
>>>>opt.fun <- function(wgt.vect) {-crossprod(wgt.vect,t(Ret.vect))}
WRT wgt.vect. If there are zero elements in Ret.vect then that hessian
will be singular. And if there are orders of magnitude difference
between the largest and smallest elements in Ret.vect then the hessian
will be ill-conditioned.
The ill-conditioned case is a numerical problem and you might solve it
with a different algorithm, or by better scaling. The zero case is a
theoretical problem, there is not a unique optimal point but rather
whole continuum of optimal points (your parameters corresponding to the
zero elements will not make any difference in the function value).
HTH,
Paul
On 12/14/2015 11:39 PM, Michael Weylandt wrote:
> (+list -- I'm not a numerical linear algebra expert or portfolio
> optimization expert, but there are a number on this list who might
> chime in)
>
> That is quite high, and almost certainly problematic.
>
> I'm not sure what an acceptable bound is (will depend on your solver),
> but that's almost certainly above it for any algorithm which will
> require inverting cov.mat.
>
> Two things you could try:
> - use a different (non-Hessian-using) optimization algorithm;
> - use some form of shrinkage/regularization (Ledoit-Wolf is a common
> choice) to tame your covariance matrix.
>
> Michael
>
> On Mon, Dec 14, 2015 at 10:10 PM, Michael Ashton
> <m.ashton at enduringinvestments.com> wrote:
>> Well, not sure whether this makes any sense but kappa(cov.mat) gives me 11148245007.
>>
>> That seems large. But I am not sure what it is supposed to be.
>>
>> -----Original Message-----
>> From: Michael Weylandt [mailto:michael.weylandt at gmail.com]
>> Sent: Monday, December 14, 2015 9:29 PM
>> To: Michael Ashton
>> Cc: r-sig-finance at r-project.org
>> Subject: Re: [R-SIG-Finance] solnp Problem Inverting Hessian
>>
>> What's the condition number of your correlation/covariance matrix? (?kappa)
>>
>> I think I've used quadprog for portfolio optimization with success, but it's been a while.
>>
>> MW
>>
>> On Mon, Dec 14, 2015 at 8:06 PM, Michael Ashton <m.ashton at enduringinvestments.com> wrote:
>>> Do you have a suggestion for such? I have in the past tried fPortfolio, but it would not allow me to specify my own projected return vectors rather than the historical returns of the series (which is exactly backwards).
>>>
>>> As for whether the matrix is comfortably non-singular...I suppose it depends in a Clintonian way on the meaning of "comfortably," but I can create a Cholesky decomposition without it blowing up, which is usually how I can tell if I have done something stupid. Well, stupider than normal.
>>>
>>> -----Original Message-----
>>> From: Michael Weylandt [mailto:michael.weylandt at gmail.com]
>>> Sent: Monday, December 14, 2015 8:32 PM
>>> To: Michael Ashton
>>> Cc: r-sig-finance at r-project.org
>>> Subject: Re: [R-SIG-Finance] solnp Problem Inverting Hessian
>>>
>>> The Hessian is the matrix of second derivatives
>>> (https://en.wikipedia.org/wiki/Hessian_matrix) -- in scalar terms, you're finding a point where the second derivative is zero and then trying to divide by the second derivative to calculate the step size.
>>>
>>> I haven't gone through your code in any detail, but I'd start by checking the covariance matrix since that's proportional to the Hessian of your objective function. Is it (comfortably) non-singular?
>>>
>>> Since you're just solving the standard Markowitz problem, you might try a simpler (quadratic/convex) solver instead of a general non-linear solver. Should behave a bit better.
>>>
>>> Michael
>>>
>>>
>>> On Mon, Dec 14, 2015 at 6:13 PM, Michael Ashton <m.ashton at enduringinvestments.com> wrote:
>>>> I must admit to being flummoxed here, mainly because my linear algebra was 25 years ago and I can't remember what a Hessian is.
>>>>
>>>> I have a matrix of 60 securities' weekly returns, along with 60 projected returns. The returns are in a vector called Ret.vect and the covariance matrix of weekly returns in cov.mat . I have the minConstraints and maxConstraints that the parameters are permitted to take. I cycle through targeted risks and get the same error for each risk targeted...below I have removed the loop to focus on the risk=0.002.
>>>>
>>>> wgt.vect=c(rep(1/60, 60))
>>>> constr.fun <- function(wgt.vect) {;
>>>> c1 = sqrt(crossprod(t(wgt.vect %*% cov.mat),wgt.vect));
>>>> c2 = sum(wgt.vect);
>>>> return(c(c1,c2));
>>>> }
>>>> ineqconstr.fun <- function(wgt.vect) {
>>>> wgt.vect[1:60];
>>>> }
>>>> opt.fun <- function(wgt.vect) {-crossprod(wgt.vect,t(Ret.vect))}
>>>>
>>>> OptimSolution <-
>>>> solnp(wgt.vect,opt.fun,constr.fun,eqB=c(0.002,1),ineqconstr.fun,ineqL
>>>> B
>>>> =minConstraints,ineqUB=maxConstraints)
>>>>
>>>> I get the following error:
>>>> solnp--> Solution not reliable....Problem Inverting Hessian.
>>>>
>>>> Well, that doesn't tell me very much! The parameters (weights) that are output for each run, as I cycle through the weights, are very scrambled...lots of little allocations, rather than clumping as you would expect to happen especially at the risky and riskless ends of the spectrum.
>>>>
>>>> Can anyone with more math than me give me a helping hand on the Hessian?
>>>>
>>>> Thanks,
>>>>
>>>>
>>>> Mike
>>>>
>>>> Michael Ashton, CFA
>>>> Managing Principal
>>>>
>>>> Enduring Investments LLC
>>>> W: 973.457.4602
>>>> C: 551.655.8006
>>>>
>>>>
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