The optimal tree species composition for a private forest enterprise - applying the theory of portfolio selection

In addition to ecological and social aspects, the financial performance of tree species should be considered in the choice of adequate tree species composition. The current study analyzes the application of the portfolio theory of Markowitz for assessing a financially optimal tree species composition for a forest enterprise, accounting for the risk of calamities and fluctuating timber prices. We derive a concept of how to optimize multi-species portfolios of different types of stands (pruned or not, naturally or artificially regenerated) using the following risk measures: standard deviation, Value at Risk, and Lower Partial Moments. Portfolios were optimized for a private forest enterprise in Germany, with the following tree species: Norway spruce, Douglas fir, European larch, Scots pine, Beech, Oak, Common ash, Maple, and Common alder. Mixtures which achieved a required rate of return of 3% with the lowest risk were defined as the optimal portfolios. For the analyzed forest enterprise, mixtures with at most 40% of Douglas fir and 15% of Norway spruce were recommended. European larch and Scots pine combined should constitute 10% and naturally regenerated hardwood stands 35%. Pruning is optimal on at least 50% of softwood area.