Practical Financial Optimization: Decision Making for Financial Engineers

Chapter 13

Personal Financial Planning

With Andrea Consiglio¹ and Flavio Cocco²

13.1 Preview

In this chapter we develop a scenario optimization model for asset and liability management of individual investors. The model maximizes the upside potential of the portfolio vis-à-vis a target return, with limits on the downside risk. Post-optimality analysis using out-of-sample scenarios measures the probability of meeting the target for a given portfolio. It also allows us to estimate the required increase in the investor's initial endowment so that the probability of success is improved.

13.2 The Demand for Personal Financial Planning

The decline of the welfare state created demand on the part of consumers for more autonomy in the management of their financial assets, leading to a rapid change in their needs and desires. At the same time – on the supply side of financial services – the development of the worldwide web has created a rich channel for the distribution of customized financial services to satisfy the increased sophistication and diversity of the investor, be it a family household, a wealthy individual, or a couple of retirees.

Financial advisors and individual consumers can today rely on financial engineering tools to manage their financial assets. At the same time the worldwide web has provided an effective communication channel through which advances in financial engineering are made available to large networks of financial advisors and, through them, reach an increasing ...