An Analysis of Heterogeneous Utility Benchmarks in a Zero Return Environment
Posted: 9 Aug 2011 Last revised: 4 Jun 2013
Date Written: August 9, 2011
The utility of an investor should be based on an acceptable loss in the loss region and a target return in the gain region of a set of investment opportunities. The level of these benchmarks will unveil an opportunity cost, break-even effect or indifference when the return of an investment equals zero. This condition has been arbitrarily assumed away for continuity and other simplification purposes. Historical utility functions, those both von Neumann-Morgenstern compliant and not, are all constrained via a single target or reference point. This single target restriction coupled with the arbitrary zero return assumption has ignored the important interpretation of this salient point on the utility curve as a proxy for the investor’s current wealth.
Keywords: Utility, Loss Aversion, Gain Seeking, Break-Even Effect, Opportunity Cost, Discontinuity
JEL Classification: D1
Suggested Citation: Suggested Citation