The Mean-Variance Paradigm Is Almost Universal: The Skewness Effect

The mean-variance rule (M-V) conforms with the expected utility paradigm only in limited and economically unacceptable scenarios. Thus, the most widely employed portfolio-selection rule seemingly loses ground. We show with the commonly employed utility functions in economics, with a preference for a positive skewness, that choosing from the M-V efficient frontier conforms with expected utility maximization even with long investment horizon and skewed distributions of returns. The economic loss induced by choosing from the M-V frontier is negligible. Thus, the M-V rule is universal, or almost universal, provided that the commonly employed utility functions in economics are employed. This is an astonishing result that even Markowitz has not dreamed of.