Target-driven investing: Optimal investment strategies in defined contribution pension plans under loss aversion
AbstractAssuming the loss aversion framework of Tversky and Kahneman (1992), stochastic investment and labour income processes, and a path-dependent fund target, we show that the optimal investment strategy for defined contribution pension plan members is a target-driven ‘threshold’ strategy, whereby the equity allocation is increased if the accumulating fund is below target and is decreased if it is above. However, if the fund is sufficiently above target, the optimal investment strategy switches to ‘portfolio insurance’. We show that the risk of failing to attain the target replacement ratio is significantly lower with target-driven strategies than with those associated with the maximisation of expected utility.
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Bibliographic InfoArticle provided by Elsevier in its journal Journal of Economic Dynamics and Control.
Volume (Year): 37 (2013)
Issue (Month): 1 ()
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Web page: http://www.elsevier.com/locate/jedc
Defined contribution pension plan; Investment strategy; Loss aversion; Target replacement ratio; Threshold strategy; Portfolio insurance; Dynamic programming;
Other versions of this item:
- Blake, David & Wright, Douglas & Zhang, Yumeng, 2011. "Target-driven investing: Optimal investment strategies in defined contribution pension plans under loss aversion," MPRA Paper 34278, University Library of Munich, Germany.
- C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques
- D91 - Microeconomics - - Intertemporal Choice and Growth - - - Intertemporal Consumer Choice; Life Cycle Models and Saving
- G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
- G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
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