Predictors and Portfolios Over the Life Cycle: Skill vs. Luck

61 Pages Posted: 9 Mar 2016 Last revised: 17 Apr 2017

Holger Kraft

Goethe University Frankfurt

Claus Munk

Copenhagen Business School

Farina Weiss

Goethe University Frankfurt

Multiple version iconThere are 2 versions of this paper

Date Written: April 16, 2017

Abstract

In a calibrated consumption-portfolio model with stock, housing, and labor income predictability, we disentangle the welfare effects of skill and luck. Skilled investors are able to take advantage of all sources of predictability, whereas unskilled investors ignore predictability. Lucky investors enter the market at a favorable time. For an unskilled investor the certainty equivalent of wealth is 0.3-6.8% lower than for a skilled investor, depending on the market entry date. Across market entry dates, skilled but unlucky investors can lose up to 15.4% compared to unskilled but lucky investors. Simulation studies confirm the relative importance of luck and document that, if anything, housing predictability is more important than stock predictability.

Keywords: Return predictability, scenarios, welfare, performance, housing

JEL Classification: G11, D91, D14

Suggested Citation

Kraft, Holger and Munk, Claus and Weiss, Farina, Predictors and Portfolios Over the Life Cycle: Skill vs. Luck (April 16, 2017). Netspar Discussion Paper No. 01/2016-010. Available at SSRN: https://ssrn.com/abstract=2744726 or http://dx.doi.org/10.2139/ssrn.2744726

Holger Kraft

Goethe University Frankfurt ( email )

Faculty of Economics and Business Administration
Theodor-W.-Adorno-Platz 3
Frankfurt am Main, 60323
Germany

Claus Munk (Contact Author)

Copenhagen Business School ( email )

Department of Finance
Solbjerg Plads 3
Frederiksberg, DK-2000
Denmark

HOME PAGE: http://sites.google.com/site/munkfinance/

Farina Weiss

Goethe University Frankfurt ( email )

Faculty of Economics and Business Administration
Theodor-W.-Adorno-Platz 3
Frankfurt am Main, 60323
Germany

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