The Size of Background Risk and the Theory of Risk Bearing

30 Pages Posted: 11 Nov 2008

See all articles by Gunter Franke

Gunter Franke

affiliation not provided to SSRN

Richard C. Stapleton

University of Strathclyde - Department of Accounting and Finance

Marti G. Subrahmanyam

New York University (NYU) - Department of Finance

Multiple version iconThere are 2 versions of this paper

Date Written: December 1994

Abstract

We establish a necessary and sufficient condition for the risk aversion of an agent s derived utility function to increase with independent, zero-mean background risk. This condition is weaker than standard risk aversion. For small risks, the condition is that the ratio of the third to the first derivative of the utility function is decreasing in income. In a market with state-contingent marketable claims, an increase in background risk, which raises the agent s derived risk aversion, reduces the slope of the agent s optimal sharing rule. Under a weak aggregation condition. An increase of background risk for many agents I n the economy raises the prices of marketable claims in states with a low level of marketable aggregate income relative to the prices in states with a higher level of such income.

Suggested Citation

Franke, Gunter and Stapleton, Richard C. and Subrahmanyam, Marti G., The Size of Background Risk and the Theory of Risk Bearing (December 1994). NYU Working Paper No. FIN-94-034. Available at SSRN: https://ssrn.com/abstract=1299463

Gunter Franke (Contact Author)

affiliation not provided to SSRN

No Address Available

Richard C. Stapleton

University of Strathclyde - Department of Accounting and Finance ( email )

Curran Building
100 Cathedral Street
Glasgow G4 0LN
United Kingdom
+44 1524 381 172 (Phone)
+44 1524 846874 (Fax)

Marti G. Subrahmanyam

New York University (NYU) - Department of Finance ( email )

Stern School of Business,
44 West 4th Street, Suite 9-68
New York, NY 10012-1126
United States
212-998-0348 (Phone)
212-995-4233 (Fax)

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