Does the More Risk-Averse Investor Hold a Less Risky Portfolio?

Abstract

We study the suitability of using absolute risk aversion as a measure of willingness to take risk in the Arrow-Debreu portfolio framework. We define a global measure of risk for the Arrow-Debreu portfolio - 'conservatism', which is measured by the sensitivity of portfolio payoff to the change in the market return. We show that the concept of 'more conservative' is stronger than that of 'more risk-averse'. A higher absolute risk aversion is only necessary but not sufficient to induce a less risky Arrow-Debreu portfolio. Our results not only challenge the well-accepted notion that a more risk-averse investor holds a less risky portfolio, but also suggest a stronger measure - conservatism - for evaluating the riskiness of portfolio.

Keywords: Conservatism, Absolute risk aversion, Complete portfolio, More risk-averse, More conservative

JEL Classification: G11, D52