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Optimal financial investments for non-concave utility functions

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  • Rieger, Marc Oliver

Abstract

We prove a formula for the computation of optimal financial investments in an expected utility framework with arbitrary (not necessarily concave) utility functions. This extends classical results on optimal financial investments for strictly concave utility functions and is of importance particularly for applications of prospect theory where the utility function has a convex–concave shape.

Suggested Citation

  • Rieger, Marc Oliver, 2012. "Optimal financial investments for non-concave utility functions," Economics Letters, Elsevier, vol. 114(3), pages 239-240.
    • Handle: RePEc:eee:ecolet:v:114:y:2012:i:3:p:239-240
    DOI: 10.1016/j.econlet.2011.10.029
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    References listed on IDEAS

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    1. Leland, Hayne E, 1980. "Who Should Buy Portfolio Insurance?," Journal of Finance, American Finance Association, vol. 35(2), pages 581-594, May.
    2. Tversky, Amos & Kahneman, Daniel, 1992. "Advances in Prospect Theory: Cumulative Representation of Uncertainty," Journal of Risk and Uncertainty, Springer, vol. 5(4), pages 297-323, October.
    3. Kenneth J. Arrow, 1974. "The Use of Unbounded Utility Functions in Expected-Utility Maximization: Response," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 88(1), pages 136-138.
    4. Daniel Kahneman & Amos Tversky, 2013. "Prospect Theory: An Analysis of Decision Under Risk," World Scientific Book Chapters, in: Leonard C MacLean & William T Ziemba (ed.), HANDBOOK OF THE FUNDAMENTALS OF FINANCIAL DECISION MAKING Part I, chapter 6, pages 99-127, World Scientific Publishing Co. Pte. Ltd..
    5. Harry Markowitz, 1952. "Portfolio Selection," Journal of Finance, American Finance Association, vol. 7(1), pages 77-91, March.
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    Citations

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    Cited by:

    1. Alin OPREANA, 2014. "Investment Modelling at the Euro Area Level," Expert Journal of Finance, Sprint Investify, vol. 2(1), pages 26-30.
    2. Zongxia Liang & Yang Liu & Litian Zhang, 2021. "A Framework of State-dependent Utility Optimization with General Benchmarks," Papers 2101.06675, arXiv.org, revised Dec 2023.
    3. Alain Bensoussan & Abel Cadenillas & Hyeng Keun Koo, 2015. "Entrepreneurial Decisions on Effort and Project with a Nonconcave Objective Function," Mathematics of Operations Research, INFORMS, vol. 40(4), pages 902-914, October.
    4. Armstrong, John & Brigo, Damiano, 2019. "Risk managing tail-risk seekers: VaR and expected shortfall vs S-shaped utility," Journal of Banking & Finance, Elsevier, vol. 101(C), pages 122-135.
    5. Thorsten Hens & Marc Oliver Rieger, 2014. "Can utility optimization explain the demand for structured investment products?," Quantitative Finance, Taylor & Francis Journals, vol. 14(4), pages 673-681, April.
    6. Christian Dehm & Thai Nguyen & Mitja Stadje, 2020. "Non-concave expected utility optimization with uncertain time horizon," Papers 2005.13831, arXiv.org, revised Oct 2021.

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    More about this item

    Keywords

    Optimal investments; Non-concave utility function; Prospect theory;
    All these keywords.

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • D03 - Microeconomics - - General - - - Behavioral Microeconomics: Underlying Principles

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