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Optimal life-cycle asset allocation: understanding the empirical evidence

Gomes, Francisco and Michaelides, Alexander (2005) Optimal life-cycle asset allocation: understanding the empirical evidence. 4853. Centre for Economic Policy Research, London, UK.

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Abstract

We show that a life cycle model with realistically calibrated uninsurable labour income risk and moderate risk aversion can simultaneously match stock market participation rates and asset allocation decisions conditional on participation. The key ingredients of the model are Epstein-Zin preferences, a fixed stock market entry cost, and moderate heterogeneity in risk aversion. Households with low risk aversion smooth earnings shocks with a small buffer stock of assets, and consequently most of them (optimally) never invest in equities. Therefore, the marginal stockholders are (endogenously) more risk averse, and as a result they do not invest their portfolios fully in stocks.

Item Type: Monograph (Discussion Paper)
Official URL: http://www.cepr.org
Additional Information: © 2005 Francisco J. Gomes and Alexander Michaelides
Library of Congress subject classification: H Social Sciences > HG Finance
Journal of Economic Literature Classification System: G - Financial Economics > G1 - General Financial Markets > G11 - Portfolio Choice; Investment Decisions
Sets: Research centres and groups > Financial Markets Group (FMG)
Collections > Economists Online
Departments > Economics
Collections > LSE Financial Markets Group (FMG) Working Papers
Rights: http://www.lse.ac.uk/library/usingTheLibrary/academicSupport/OA/depositYourResearch.aspx
Identification Number: 4853
Date Deposited: 04 Jun 2008 16:12
URL: http://eprints.lse.ac.uk/5361/

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