Portfolio Performance Evaluation with Loss Aversion
Quantitative Finance, Forthcoming
21 Pages Posted: 5 Jan 2010 Last revised: 6 Sep 2011
Date Written: January 4, 2010
In this paper we consider a loss averse investor equipped with a specific, but still quite general, utility function motivated by behavioral finance. We show that under some concrete assumptions about the form of this utility one can derive closed-form solutions for the investor's portfolio performance measure. We investigate the effects of loss aversion and demonstrate its important role in performance measurement. The framework presented in this paper also provides a sound theoretical foundation for all known performance measures based on partial moments of distribution.
Keywords: utility theory, behavioral finance, portfolio performance evaluation, performance measure, reward-to-risk ratio, loss aversion
JEL Classification: D81, G11
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