Down or Out: Assessing the Welfare Costs of Household Investment Mistakes

65 Pages Posted: 11 Feb 2006 Last revised: 8 Mar 2013

See all articles by Laurent E. Calvet

Laurent E. Calvet

EDHEC Business School - Department of Economics & Finance; CEPR

John Y. Campbell

Harvard University - Department of Economics; National Bureau of Economic Research (NBER)

Paolo Sodini

Stockholm School of Economics - Department of Finance; Swedish House of Finance

Multiple version iconThere are 3 versions of this paper

Date Written: February 2006

Abstract

This paper investigates the efficiency of household investment decisions in a unique dataset containing the disaggregated wealth and income of the entire population of Sweden. The analysis focuses on two main sources of inefficiency in the financial portfolio: underdiversification of risky assets ("down") and nonparticipation in risky asset markets ("out"). We find that while a few households are very poorly diversified, the cost of diversification mistakes is quite modest for most of the population. For instance, a majority of participating Swedish households are sufficiently diversified internationally to outperform the Sharpe ratio of their domestic stock market. We document that households with greater financial sophistication tend to invest more efficiently but also more aggressively, so the welfare cost of portfolio inefficiency tends to be greater for these households. The welfare cost of nonparticipation is smaller by almost one half when we take account of the fact that nonparticipants would be unlikely to invest efficiently if they participated in risky asset markets.

Suggested Citation

Calvet, Laurent E. and Campbell, John Y. and Sodini, Paolo, Down or Out: Assessing the Welfare Costs of Household Investment Mistakes (February 2006). NBER Working Paper No. w12030. Available at SSRN: https://ssrn.com/abstract=883079

Laurent E. Calvet (Contact Author)

EDHEC Business School - Department of Economics & Finance ( email )

France

CEPR ( email )

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John Y. Campbell

Harvard University - Department of Economics ( email )

Littauer Center
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617-495-7730 (Fax)

HOME PAGE: http://scholar.harvard.edu/campbell

National Bureau of Economic Research (NBER)

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Paolo Sodini

Stockholm School of Economics - Department of Finance ( email )

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SE-113 83 Stockholm
Sweden
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46 8 312327 (Fax)

HOME PAGE: http://www.hhs.se/secfi/People/Faculty/Finpso/finp

Swedish House of Finance ( email )

Drottninggatan 98
111 60 Stockholm
Sweden

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