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Dynamic Asset Allocation with Event RiskJun LiuUniversity of California, San Diego (UCSD) - Rady School of Management Jun PanMassachusetts Institute of Technology (MIT) - Economics, Finance, Accounting (EFA); National Bureau of Economic Research (NBER); China Academy of Financial Research (CAFR) Francis A. LongstaffUniversity of California, Los Angeles (UCLA) - Finance Area; National Bureau of Economic Research (NBER) August 2002 NBER Working Paper No. w9103 Abstract: Major events often trigger abrupt changes in stock prices and volatility. We study the implications of jumps in prices and volatility on investment strategies. Using the event-risk framework of Duffie, Pan, and Singleton (2000), we provide analytical solutions to the optimal portfolio problem. Event risk dramatically affects the optimal strategy. An investor facing event risk is less willing to take leveraged or short positions. The investor acts as if some portion of his wealth may become illiquid and the optimal strategy blends both dynamic and buy-and-hold strategies. Jumps in prices and volatility both have important effects.
Number of Pages in PDF File: 45 working papers seriesDate posted: August 16, 2002Suggested CitationContact Information
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