Diversification and its Discontents: Idiosyncratic and Entrepreneurial Risk in the Quest for Social Status
Nikolai L. Roussanov
University of Pennsylvania - The Wharton School; National Bureau of Economic Research (NBER)
May 11, 2010
Journal of Finance, Forthcoming
Social status concerns effect investors' decisions by driving a wedge in attitudes towards aggregate and idiosyncratic risks. I model such concerns by emphasizing the desire to "get ahead of the Joneses," which implies that investors' aversion to idiosyncratic risk is lower than their aversion to aggregate risk. The model predicts that investors hold concentrated portfolios in equilibrium, which helps rationalize the puzzlingly small premium for undiversified entrepreneurial risk. In the model, status concerns are more important for the wealthier households. Consequently, these households own a disproportionate share of risky assets, particularly private equity, and experience greater volatility of wealth and consumption growth, consistently with empirical evidence.
Number of Pages in PDF File: 45
Keywords: portfolio choice, diversification, social status, wealth distribution
JEL Classification: E21, G11, D14, D31, L26Accepted Paper Series
Date posted: June 7, 2008 ; Last revised: December 13, 2011
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