Realization Utility with Reference-Dependent Preferences

The Review of Financial Studies (2013) 26 (3): 723-767.

48 Pages Posted: 1 Jan 2012 Last revised: 20 Feb 2013

See all articles by Jonathan E. Ingersoll

Jonathan E. Ingersoll

Yale School of Management - International Center for Finance

Lawrence J. Jin

California Institute of Technology

Date Written: June 18, 2012

Abstract

We develop a tractable model of realization utility that studies the role of reference-dependent S-shaped preferences in a dynamic investment setting with reinvestment. Our model generates both voluntarily realized gains and losses. It makes specific predictions about the volume of gains and losses, the holding periods, and the sizes of both realized and paper gains and losses that can be calibrated to a variety of statistics, including Odean’s measure of the disposition effect. Our model also predicts several anomalies including, among others, the flattening of the capital market line and a negative price for idiosyncratic risk.

Keywords: Realization Utility, Prospect Theory, Disposition Effect

JEL Classification: G02, G11, G12

Suggested Citation

Ingersoll, Jonathan E. and Jin, Lawrence J., Realization Utility with Reference-Dependent Preferences (June 18, 2012). The Review of Financial Studies (2013) 26 (3): 723-767.. Available at SSRN: https://ssrn.com/abstract=1978002 or http://dx.doi.org/10.2139/ssrn.1978002

Jonathan E. Ingersoll (Contact Author)

Yale School of Management - International Center for Finance ( email )

135 Prospect Street
P.O. Box 208200
New Haven, CT 06520-8200
United States
203-432-5924 (Phone)
203-432-6974 (Fax)

Lawrence J. Jin

California Institute of Technology ( email )

1200 E. California Blvd.
MC 228-77
Pasadena, CA 91125
United States
626-395-4558 (Phone)

HOME PAGE: http://www.hss.caltech.edu/content/lawrence-jin

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