Introducing Leverage Aversion into Portfolio Theory and Practice

This paper proposes that leverage aversion be introduced into portfolio theory, and that leverage aversion be considered along with volatility aversion in determining optimal portfolios. Mean-variance-leverage optimization results in a three-dimensional mean-variance-leverage efficient surface, from which mean-variance-leverage efficient frontiers and a mean-variance-leverage efficient region can be derived. Leverage aversion can have a large impact on portfolio choice. Consideration of leverage aversion by investors may help mitigate leverage-induced systemic events