Dual Utilities on Risk Aggregation under Dependence Uncertainty
Finance and Stochastics, Forthcoming
25 Pages Posted: 30 Nov 2017 Last revised: 30 Jun 2019
Date Written: November 26, 2017
Finding the worst-case value of a preference over a set of plausible models is a well-established approach to address the issue of model uncertainty or ambiguity. In this paper, we study the worst-case evaluation of Yaari’s dual utility functionals of an aggregate risk under dependence uncertainty along with its decision-theoretic implications. To arrive at our main findings, we introduce a technical notion of conditional joint mixability. Lower and upper bounds on dual utilities with dependence uncertainty are established and, in the presence of conditional joint mixability, they are shown to be exact bounds. A particular economic implication of our results is what we call the pessimism effect. We show that a (generally non-convex/nonconcave) dual utility-based decision maker under dependence uncertainty behaves as if she had a more pessimistic risk-averse dual utility but free of dependence uncertainty.
Keywords: Dual Utility; Conditional Joint Mixability; Risk Aggregation; Dependence Uncertainty; Pessimism Effect
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