Portfolio optimization using improved artificial bee colony approach

Abstract

Nature-inspired optimization methods have been known to have the capability of handling computationally complicated problems, especially when traditional methods have become insufficient to. In this work, we proposed an improved artificial bee colony (IABC) method as the solution approach to trace out an efficiency frontier of the general portfolio performance. Such portfolio optimization problem focuses on balancing the trade-off between risk and return and is also captured in multidimensional nature with cardinality and bounding constraints. The proposed IABC algorithm intends to balance the diversity and quality of solutions, and fulfill the characteristic of the portfolio optimization problem. To do so, we employ a hybrid encoding that mixes integer and real variables in the IABC algorithm, and test its performance on four global stock market indices from the OR-Library. In addition, computational results are compared among four other algorithms. Evidences indicate that IABC performs the best in terms of diversity, convergence, and effectiveness among all four test data sets. The effect of choosing different number of stocks to form a portfolio is also investigated. The results confirm that less number of stocks selected in a portfolio can help to build a better efficiency frontier with lower risk and higher return more quickly.