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http://ssrn.com/abstract=1817522
 
 

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Portfolio Choice with Illiquid Assets


Andrew Ang


Columbia Business School - Finance and Economics; National Bureau of Economic Research (NBER)

Dimitris Papanikolaou


Northwestern University - Kellogg School of Management - Department of Finance; National Bureau of Economic Research (NBER)

Mark M. Westerfield


University of Washington

August 1, 2013

Netspar Discussion Paper No. 10/2010-092

Abstract:     
We present a model of optimal allocation to liquid and illiquid assets, where illiquidity risk results from the restriction that an asset cannot be traded for intervals of uncertain duration. Illiquidity risk leads to increased and state-dependent risk aversion, and reduces the allocation to both liquid and illiquid risky assets. Uncertainty about the length of the illiquidity interval, as opposed to a deterministic non-trading interval, is a primary determinant of the cost of illiquidity. We allow market liquidity to vary from `normal' periods, when all assets are fully liquid, to `illiquidity crises', when some assets can only be traded infrequently. The possibility of a liquidity crisis leads to limited arbitrage in normal times. Investors are willing to forego 2% of their wealth to hedge against illiquidity crises occurring once every ten years.

Number of Pages in PDF File: 47

Keywords: Asset allocation, liquidity, alternative assets, liquidity crises

JEL Classification: G11, G12

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Date posted: April 22, 2011 ; Last revised: September 19, 2014

Suggested Citation

Ang, Andrew and Papanikolaou, Dimitris and Westerfield, Mark M., Portfolio Choice with Illiquid Assets (August 1, 2013). Netspar Discussion Paper No. 10/2010-092. Available at SSRN: http://ssrn.com/abstract=1817522 or http://dx.doi.org/10.2139/ssrn.1817522

Contact Information

Andrew Ang (Contact Author)
Columbia Business School - Finance and Economics ( email )
3022 Broadway
New York, NY 10027
United States

National Bureau of Economic Research (NBER)
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
Dimitris Papanikolaou
Northwestern University - Kellogg School of Management - Department of Finance ( email )
Evanston, IL 60208
United States
National Bureau of Economic Research (NBER) ( email )
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
Mark M. Westerfield
University of Washington ( email )
Box 353200
Seattle, WA 98195
United States
HOME PAGE: http://www.markwesterfield.com
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