Robust Consumption and Portfolio Policies When Asset Prices Can Jump

Journal of Economic Theory, 2019, 179, 1-56.

73 Pages Posted: 1 Jun 2017 Last revised: 14 Jul 2020

See all articles by Yacine Ait-Sahalia

Yacine Ait-Sahalia

Princeton University - Department of Economics

Felix Matthys

ITAM

Date Written: September 24, 2018

Abstract

We study the consumption-portfolio allocation problem in continuous time when asset prices follow Levy processes and the investor is concerned about potential model misspecification. We derive optimal consumption and portfolio policies that are robust to uncertainty about the hard-to-estimate
drift rate, jump intensity and jump size parameters. We also provide a semi-closed form formula for the detection-error probability and compare various portfolio holding strategies, including robust and non-robust policies. Our quantitative analysis shows that ignoring uncertainty leads to significant wealth loss for the investor.

Keywords: Optimal consumption and portfolio selection, jumps, Levy processes, robust control, closed form solution

JEL Classification: G10, J75, E20

Suggested Citation

Ait-Sahalia, Yacine and Matthys, Felix, Robust Consumption and Portfolio Policies When Asset Prices Can Jump (September 24, 2018). Journal of Economic Theory, 2019, 179, 1-56., Available at SSRN: https://ssrn.com/abstract=2976562 or http://dx.doi.org/10.2139/ssrn.2976562

Yacine Ait-Sahalia

Princeton University - Department of Economics ( email )

Fisher Hall
Princeton, NJ 08544
United States
609-258-4015 (Phone)
609-258-5398 (Fax)

Felix Matthys (Contact Author)

ITAM ( email )

Av. Camino a Sta. Teresa 930
Col. Héroes de Padierna
Mexico City, D.F. 01000, Federal District 01080
Mexico
+52 155 1394 6562 (Phone)

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