On Abel's Concept of Doubt and Pessimism

20 Pages Posted: 15 Jul 2006

See all articles by Elyes Jouini

Elyes Jouini

Univ. Paris Dauphine - CEREMADE

Clotilde Napp

CNRS and Université Paris-Dauphine ; IZA

Date Written: September 27, 2006

Abstract

In this paper, we characterize subjective probability beliefs leading to a higher equilibrium market price of risk. We establish that Abel's result on the impact of doubt on the risk premium is not correct (see Abel, A., 2002. An exploration of the effects of pessimism and doubt on asset returns. Journal of Economic Dynamics and Control, 26, 1075-1092). We introduce, on the set of subjective probability beliefs, market price of risk dominance concepts and we relate them to well known dominance concepts used for comparative statics in portfolio choice analysis. In particular, the necessary first order conditions on subjective probability beliefs in order to increase the market price of risk for all nondecreasing utility functions appear as equivalent to the monotone likelihood ratio property.

Keywords: Pessimism, optimism, doubt, stochastic dominance, risk premium, market price of risk, riskiness, portfolio dominance, monotone likelihood ratio

Suggested Citation

Jouini, Elyes and Napp, Clotilde, On Abel's Concept of Doubt and Pessimism (September 27, 2006). Available at SSRN: https://ssrn.com/abstract=915380 or http://dx.doi.org/10.2139/ssrn.915380

Elyes Jouini (Contact Author)

Univ. Paris Dauphine - CEREMADE ( email )

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Clotilde Napp

CNRS and Université Paris-Dauphine ( email )

Place de Lattre de Tassigny
Paris, 75775
France

IZA ( email )

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