Optimal consumption and portfolio choice under ambiguity for a mean-reverting risk premium in complete markets

Arbeitspapier

This paper explicitly solves, in closed form, the optimal consumption and port folio choice for an ambiguity averse investor in a Merton-type two assets economy where a risk premium follows a mean-reverting process. The investor's preferences are represented by the recursive multiple priors utility model developed by Chen and Epstein (2002). The investor's utility depends on both intermediate consumption and terminal wealth. Under the assumption of complete markets, I use the martingale method to solve the dynamic optimization problem in continuous time. I find that ambiguity can decrease the optimal consumption-to-wealth ratio, the intertemporal hedging demand and the optimal portfolio allocation, but magnifies the importance of hedging demand in the optimal portfolio allocation. In addition, ambiguity also increases riskless savings.

Object Details

• Language: Englisch

References and Relationships

• Bibliographic citation: Series: Manchester Business School Working Paper ; No. 622

Classification and Topics

• Classification: Wirtschaft ; Portfolio Choice; Investment Decisions ; Criteria for Decision-Making under Risk and Uncertainty ; Optimization Techniques; Programming Models; Dynamic Analysis
• Subject: Consumption ; Portfolio Choice ; Ambiguity ; Risk Premium ; Portfolio-Management ; Risikoaversion ; Martingale

Contributors, Places and Time

• Event: Geistige Schöpfung
• (who): Liu, Hening
• Event: Veröffentlichung
• (who): The University of Manchester, Manchester Business School
• (where): Manchester
• (when): 2011

Further information

• Handle: http://hdl.handle.net/10419/102383
• Last update: 10.03.2025, 11:45 AM CET