Download this Paper Open PDF in Browser

Non-Market Wealth, Background Risk and Portfolio Choice

50 Pages Posted: 6 Mar 2007  

Guenter Franke

University of Konstanz - Department of Economics

Harris Schlesinger

University of Alabama; CESifo (Center for Economic Studies and Ifo Institute)

Richard Stapleton

University of Manchester - Division of Accounting and Finance

Date Written: March 1, 2007

Abstract

We examine the effects of non-portfolio risks on optimal portfolio choice. Examples of non-portfolio risks include, among others, uncertain labor income, uncertainty about the terminal value of fixed assets such as housing and uncertainty about future tax liabilities. In particular, while some of these risks are added to portfolio value and have been amply studied, others are multiplicative in nature and have received far less attention. Moreover, the combined effects of multiple risks lead to some seemingly paradoxical choice behavior. We rationalize such behaviour and we show how non-portfolio risks might lead to seemingly U-shaped relative risk aversion for a representative investor, as found empirically by Ait-Sahilia and Lo (2000) and Jackwerth (2000).

Keywords: Portfolio choice, Derived relative risk aversion, Additive background risk, Multiplicative background risk

JEL Classification: G11

Suggested Citation

Franke, Guenter and Schlesinger, Harris and Stapleton, Richard, Non-Market Wealth, Background Risk and Portfolio Choice (March 1, 2007). Available at SSRN: https://ssrn.com/abstract=968096 or http://dx.doi.org/10.2139/ssrn.968096

Guenter Franke (Contact Author)

University of Konstanz - Department of Economics ( email )

Fach 147
Konstanz, 78457
Germany
+49 7531 88 2545 (Phone)
+49 7531 88 3559 (Fax)

Harris Schlesinger

University of Alabama ( email )

P.O. Box 870244
200 Alston Hall, Box 870224
Tuscaloosa, AL 35487
United States
205-348-7858 (Phone)
205-348-0590 (Fax)

CESifo (Center for Economic Studies and Ifo Institute) ( email )

Poschinger Str. 5
Munich, DE-81679
Germany

Richard Stapleton

University of Manchester - Division of Accounting and Finance ( email )

Crawford House
Oxford Road
Manchester M13 9PL
United Kingdom

HOME PAGE: http://rstapleton.com/

Paper statistics

Downloads
123
Rank
193,370
Abstract Views
572