Optimal Portfolio Under State-Dependent Expected Utility

19 Pages Posted: 14 Mar 2018  

Carole Bernard

Grenoble Ecole de Management; Vrije Universiteit Brussel (VUB)

Steven Vanduffel

Vrije Universiteit Brussel (VUB)

Jiang Ye

Vrije Universiteit Brussel (VUB)

Date Written: March 14, 2018

Abstract

We derive the optimal portfolio for an expected utility maximizer whose utility does not only depend on terminal wealth but also on some random benchmark (state-dependent utility). We then apply this result to obtain the optimal portfolio of a loss-averse investor with a random reference point (extending a result of Berkelaar et al. 2004). Clearly, the optimal portfolio has some joint distribution with the benchmark and we show that it is the cheapest possible in having this distribution. This characterization result allows us to infer the state-dependent utility function that explains the demand for a given (joint) distribution.

Keywords: Optimal Portfolio Choice, State-Dependent Utility, Cost-Efficiency, Portfolio Theory, Expected Utility Theory, Loss Aversion, Prospect Theory

JEL Classification: G02, G11

Suggested Citation

Bernard, Carole and Vanduffel, Steven and Ye, Jiang, Optimal Portfolio Under State-Dependent Expected Utility (March 14, 2018). Available at SSRN: https://ssrn.com/abstract=3132041 or http://dx.doi.org/10.2139/ssrn.3132041

Carole Bernard

Grenoble Ecole de Management ( email )

12, rue Pierre Sémard
Grenoble Cedex, 38003
France

Vrije Universiteit Brussel (VUB) ( email )

Pleinlaan 2
http://www.vub.ac.be/
Brussels, 1050
Belgium

Steven Vanduffel

Vrije Universiteit Brussel (VUB) ( email )

Pleinlaan 2
Brussels, Brabant 1050
Belgium

HOME PAGE: http://www.stevenvanduffel.com

Jiang Ye (Contact Author)

Vrije Universiteit Brussel (VUB) ( email )

Pleinlaan 2
http://www.vub.ac.be/
Brussels, 1050
Belgium

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