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Optimal risk asset allocation of a loss-averse bank with partial information under inflation risk

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  • Huang, Jia
  • Chen, Zheng

Abstract

The paper aims to solve the asset allocation problem of a loss-averse commercial bank in an environment with macroeconomic risks where inflation rates obey a mean-reverting process. The bank has only partial information about the appreciation rate of inflation. Its risk preference is described using an S-shaped utility function and then a semi-analytical investment strategy is derived through the filtering theory and inverse Fourier Transformation method. The paper finds that the investment proportion which decreases with a higher degree of information incompleteness is positively correlated with inflation risks and has a close but not monotonic relationship with the reference point.

Suggested Citation

  • Huang, Jia & Chen, Zheng, 2021. "Optimal risk asset allocation of a loss-averse bank with partial information under inflation risk," Finance Research Letters, Elsevier, vol. 38(C).
    • Handle: RePEc:eee:finlet:v:38:y:2021:i:c:s1544612319313728
    DOI: 10.1016/j.frl.2020.101513
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    More about this item

    Keywords

    Bank asset allocation; Loss aversion; Partial information; Inflation risk;
    All these keywords.

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • C61 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Optimization Techniques; Programming Models; Dynamic Analysis

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