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Multi-objective private wealth allocation without subportfolios

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  • Cai, Jun
  • Ge, Chenliang
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    Abstract

    As opposed to institutional investors, individual investors typically have several investment objectives in mind. The traditional utility maximization approach is not only oversimplified but also may not be suitable for real world application. Behavioral asset allocation divides a portfolio into subportfolios, which can cause potential problems. This paper follows the Modern Portfolio Theory and introduces the practical idea of treating some goals as constraints. How this works in practice is illustrated by an example of an individual having three different objectives. This article follows the idea of Chen et al. (2006) and includes life insurance. Consumption is modeled into three parts and accommodates a reasonable basis for calculating life insurance requirements and generally integrates consumption into the investment decision. As a whole, the model provides a customized solution for the environment and complex investment goals of an individual.

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    Bibliographic Info

    Article provided by Elsevier in its journal Economic Modelling.

    Volume (Year): 29 (2012)
    Issue (Month): 3 ()
    Pages: 900-907

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    Handle: RePEc:eee:ecmode:v:29:y:2012:i:3:p:900-907

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    Web page: http://www.elsevier.com/locate/inca/30411

    Related research

    Keywords: Private wealth allocation; Multi-objective; CTE; Life insurance;

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    References

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    1. Joao F. Cocco, 2005. "Portfolio Choice in the Presence of Housing," Review of Financial Studies, Society for Financial Studies, vol. 18(2), pages 535-567.
    2. John Y. Campbell, 1995. "Understanding Risk and Return," Harvard Institute of Economic Research Working Papers 1711, Harvard - Institute of Economic Research.
    3. John Y. Campbell & João F. Cocco & Francisco J. Gomes & Pascal J. Maenhout, 2001. "Investing Retirement Wealth: A Life-Cycle Model," NBER Chapters, in: Risk Aspects of Investment-Based Social Security Reform, pages 439-482 National Bureau of Economic Research, Inc.
    4. Luis M. Viceira, 1999. "Optimal Portfolio Choice for Long-Horizon Investors with Nontradable Labor Income," NBER Working Papers 7409, National Bureau of Economic Research, Inc.
    5. Hyeng Keun Koo, 1998. "Consumption and Portfolio Selection with Labor Income: A Continuous Time Approach," Mathematical Finance, Wiley Blackwell, vol. 8(1), pages 49-65.
    6. Shefrin, Hersh & Statman, Meir, 2000. "Behavioral Portfolio Theory," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 35(02), pages 127-151, June.
    7. Das, Sanjiv & Markowitz, Harry & Scheid, Jonathan & Statman, Meir, 2010. "Portfolio Optimization with Mental Accounts," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 45(02), pages 311-334, April.
    8. Horneff, Wolfram J. & Maurer, Raimond H. & Stamos, Michael Z., 2008. "Life-cycle asset allocation with annuity markets," Journal of Economic Dynamics and Control, Elsevier, vol. 32(11), pages 3590-3612, November.
    9. Merton, Robert C., 1971. "Optimum consumption and portfolio rules in a continuous-time model," Journal of Economic Theory, Elsevier, vol. 3(4), pages 373-413, December.
    10. Heaton, John & Lucas, Deborah, 1997. "Market Frictions, Savings Behavior, And Portfolio Choice," Macroeconomic Dynamics, Cambridge University Press, vol. 1(01), pages 76-101, January.
    11. Matthew Rabin & Richard H. Thaler, 2001. "Anomalies: Risk Aversion," Journal of Economic Perspectives, American Economic Association, vol. 15(1), pages 219-232, Winter.
    12. Luca Benzoni & Pierre Collin-Dufresne & Robert S. Goldstein, 2007. "Portfolio Choice over the Life-Cycle when the Stock and Labor Markets Are Cointegrated," Journal of Finance, American Finance Association, vol. 62(5), pages 2123-2167, October.
    13. Luca Benzoni & Pierre Collin-Dufresne & Robert S. Goldstein, 2007. "Portfolio choice over the life-cycle when the stock and labor markets are cointegrated," Working Paper Series WP-07-11, Federal Reserve Bank of Chicago.
    14. Pliska, Stanley R. & Ye, Jinchun, 2007. "Optimal life insurance purchase and consumption/investment under uncertain lifetime," Journal of Banking & Finance, Elsevier, vol. 31(5), pages 1307-1319, May.
    15. Joao F. Cocco, 2005. "Consumption and Portfolio Choice over the Life Cycle," Review of Financial Studies, Society for Financial Studies, vol. 18(2), pages 491-533.
    16. Camelia Kuhnen & Brian Knutson, 2005. "The Neural Basis of Financial Risk Taking," Experimental 0509001, EconWPA.
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    Cited by:
    1. Zeng, Jhih-Hong & Peng, Chi-Lu & Chen, Ming-Chi & Lee, Chien-Chiang, 2013. "Wealth effects on the housing markets: Do market liquidity and market states matter?," Economic Modelling, Elsevier, vol. 32(C), pages 488-495.

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