The central message of this paper is that nobody should be using the sample covariance matrix for the purpose of portfolio optimization. It contains estimation error of the kind most likely to perturb a mean-variance optimizer. In its place, we suggest using the matrix obtained from the sample...

This paper proposes to estimate the covariance matrix of stock returns by an optimally weighted average of two existing estimators: the sample covariance matrix and single-index covariance matrix. This method is generally known as shrinkage, and it is standard in decision theory and in empirical...

The central message of this paper is that nobody should be using the sample covariance matrix for the purpose of portfolio optimization. It contains estimation error of the kind most likely to perturb a mean-variance optimizer. In its place, we suggest using the matrix obtained from the sample...