ASX Sector Minimum Variance Portfolio

The following provides the composition of the minimum variance optimal portfolio with the no short (only positive weights) constraint. The minimum variance portfolio is calculated by optimising the portfolio variance by weighting the sector variances (and covariances). The minimum variance portfolio highlights those sectors contributing the greatest degree of return diversification, being the least correlated with other sectors.

Where:

• is the portfolio risk represented which is to be minimised as the weighted sum of the return covariance ;
• is the portfolio return is the weight sum of the expected returns which yields the desired return ;
• includes the normalised budget constraint that the weights should sum to 1 ;
• and the short sell constraint that no individual weight can be less than zero .

Portfolio weight trends

The following compares the performance of the minimum variance portfolio against the market actual average and alternative portfolios in terms of both average returns and risk (measured through the portfolio variance). The minimum variance portfolio generates similar returns to the market average but with less risk, the maximum sharpe ratio portfolio generates higher returns with similar risk.

The composition changes for each the portfolios highlights the contributions of particular sectors to each portfolio based on whether the portfolio is optimised for higher risk or return (sharpe ratio).

The covariances driving this analysis are derived from the ASX Correlation Index.

As individual sectors often dominate returns in the maximum sharpe ratio portfolio, the optimal portfolio tends to highlight strong performing sectors which dominate diversification gains. For example since the start of 2026 strong increase in energy prices have increased returns to the materials and energy sector. This is reflected in portfolio weights dominated by these energy and materials to the exclusion of the previously most diversifying sector Communications Services.