Clustering-Based Shrunk Correlation Matrix

Compute an asset correlation matrix as a convex linear combination of an asset correlation matrix and a clustering-based target correlation matrix, the clustering-based target correlation matrix being either:

• An block-equicorrelation matrix made of 0s
• A block-equicorrelation matrix made of the cluster-based average correlations of the elements of the asset correlation matrix

References

• Gianluca De Nard, Oops! I Shrunk the Sample Covariance Matrix Again: Blockbuster Meets Shrinkage, Journal of Financial Econometrics, Volume 20, Issue 4, Fall 2022, Pages 569–611