A Portfolio Choice Problem Under Risk Capacity Constraint

50 Pages Posted: 22 Jun 2020 Last revised: 2 Dec 2021

See all articles by Weidong Tian

Weidong Tian

University of North Carolina (UNC) at Charlotte - The Belk College of Business Administration

Zimu Zhu

UCSB

Date Written: May 28, 2020

Abstract

This paper studies the asset allocation problem for a retiree facing longevity risk and living standard risk. We introduce a risk capacity constraint to reduce the living standard risk in the retirement period. Whether the retiree focuses on intertemporal consumption or inheritance wealth, we demon- strate a unique number to measure the expected lump sum of the spending post-retirement. The optimal portfolio is nearly neutral to the stock market movement if the portfolio’s value is higher than this finite critical value; otherwise, the retiree actively invests in the stock market. As a comparison, we consider a dynamic leverage constraint and show that the corresponding optimal portfolio would lose significantly in stressed markets.

Keywords: Risk Capacity, Retirement Portfolio, Longevity Risk, Leverage Constraint

JEL Classification: G11, G12, G13, D52, and D90

Suggested Citation

Tian, Weidong and Zhu, Zimu, A Portfolio Choice Problem Under Risk Capacity Constraint (May 28, 2020). Available at SSRN: https://ssrn.com/abstract=3612488 or http://dx.doi.org/10.2139/ssrn.3612488

Weidong Tian

University of North Carolina (UNC) at Charlotte - The Belk College of Business Administration ( email )

9201 University City Boulevard
Charlotte, NC 28223-0001
United States

HOME PAGE: http://belkcollegeofbusiness.uncc.edu/wtian1/

Zimu Zhu (Contact Author)

UCSB ( email )

University of Santa Barbara
Old Gym 1201
Santa Barbara, CA California 93106
United States

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