Multiperiod Portfolio Choice Under Loss Aversion with Dynamic Reference Point in Serially Correlated Market

38 Pages Posted: 12 Mar 2023 Last revised: 5 Jun 2024

See all articles by Jianjun Gao

Jianjun Gao

Shanghai Jiao Tong University; Shanghai University of Finance and Economics

Li Yaoming

Shanghai University of Finance and Economics - School of Information Management and Engineering

Yun Shi

East China Normal University (ECNU)

Jinyan Xie

Shanghai University of Finance and Economics

Abstract

This paper explores a novel multiperiod portfolio decision model for loss-averse investors with dynamically adapted reference points in a market with serially correlated returns. We demonstrate that the optimal policy is a piecewise linear function of the deviation between current wealth and reference level, and its slopes are a path-dependent function of the historical returns, in sharp contrast to the constant slopes generated by the simplified model that ignores the diminishing sensitivity and assumes independent returns. This distinctive characteristic brings about a significant departure from the conventional V-shaped pattern of the risky position, leading to a more intricate nonlinear functional mapping. Our study underscores the potential pitfalls of relying on the simplified model and offers valuable insights for investors and practitioners seeking to formulate effective portfolio strategies under realistic market conditions. Furthermore, our simulation analysis indicates that the predictability of returns, coupled with a slight degree of diminishing sensitivity, may amplify the disposition effect. Lastly, we establish that the new policy also effectively addresses the multiperiod mean-Conditional-Value-at-Risk (CVaR) portfolio optimization problem in the context of correlated returns, thereby expanding the practical applications of our findings.

Keywords: Multiperiod portfolio choice, Loss aversion, Serial correlated returns, Dynamic reference point updating, Disposition effect

Suggested Citation

Gao, Jianjun and Yaoming, Li and Shi, Yun and Xie, Jinyan, Multiperiod Portfolio Choice Under Loss Aversion with Dynamic Reference Point in Serially Correlated Market. Available at SSRN: https://ssrn.com/abstract=4386049 or http://dx.doi.org/10.2139/ssrn.4386049

Jianjun Gao (Contact Author)

Shanghai Jiao Tong University ( email )

800 Dongchuan Road
Shanghai
China
+86-18201925139 (Phone)
+86 34205004 (Fax)

Shanghai University of Finance and Economics ( email )

No. 100 Wudong Road
Shanghai, Shanghai 200433
China

Li Yaoming

Shanghai University of Finance and Economics - School of Information Management and Engineering ( email )

No. 100 Wudong Road
Shanghai, Shanghai 200433
China

Yun Shi

East China Normal University (ECNU) ( email )

North Zhongshan Road Campus
3663 N. Zhongshan Rd.
Shanghai, 200062
China

Jinyan Xie

Shanghai University of Finance and Economics ( email )

NO. 777 Guoding Road
Shanghai, 200433
China

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
41
Abstract Views
168
PlumX Metrics