31 Pages Posted: 29 Mar 2000 Last revised: 30 Jan 2012
Date Written: February 1, 2000
This paper analyses the optimal investment strategy for loss averse investors, assuming a complete market and general Ito processes for the asset prices. The loss averse investor follows a partial portfolio insurance strategy. When the planning horizon of the investor is short, i.e. less than 5 years, he or she considerably reduces the initial portfolio weight of stocks compared to an investor with smooth power utility. Consistent with popular investment advice, the initial portfolio weight of stocks of a loss averse investor typically increases with the investment horizon. The empirical section of the paper estimates the level of loss aversion implied by historical US stock market data, using a representative agent model. We find that loss aversion and risk aversion cannot be disentangled and provide a similar fit to the data.
JEL Classification: G11, G12
Suggested Citation: Suggested Citation
Berkelaar, Arjan B. and Kouwenberg, Roy and Post, Thierry, Optimal Portfolio Choice Under Loss Aversion (February 1, 2000). Review of Economics and Statistics, Vol. 86, No. 4, 2004. Available at SSRN: https://ssrn.com/abstract=214569 or http://dx.doi.org/10.2139/ssrn.214569