The Gain-Pain Index: Asset Allocation for Individual (And Other?) Investors

Abstract

Individual investors typically determine their asset allocation using investor questionnaires, which can be viewed as black boxes that generate a result without highlighting the benefits and costs of the portfolios considered. This article introduces an asset allocation tool, the gain-pain index (GPI), that overcomes this shortcoming. The tool proposed incorporates two critical variables found in investor questionnaires, the portfolio holding period and the investor’s risk tolerance, and broadens the definition of risk beyond volatility by also considering the probability of suffering a loss and the magnitude of the loss. The model is used to determine optimal asset allocations for 21 countries and the world market, for different holding periods and levels of risk aversion.

Keywords: Asset allocation, risk, volatility, downside risk, global evidence, gain-pain index

JEL Classification: G11