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Almost marginal conditional stochastic dominance

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  • Denuit, Michel M.
  • Huang, Rachel J.
  • Tzeng, Larry Y.
  • Wang, Christine W.

Abstract

Marginal Conditional Stochastic Dominance (MCSD) developed by Shalit and Yitzhaki (1994) gives the conditions under which all risk-averse individuals prefer to increase the share of one risky asset over another in a given portfolio. In this paper, we extend this concept to provide conditions under which most (and not all) risk-averse investors behave in this way. Instead of stochastic dominance rules, almost stochastic dominance is used to assess the superiority of one asset over another in a given portfolio. Switching from MCSD to Almost MCSD (AMCSD) helps to reconcile common practices in asset allocation and the decision rules supporting stochastic dominance relations. A financial application is further provided to demonstrate that using AMCSD can indeed improve investment efficiency.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of Banking & Finance.

Volume (Year): 41 (2014)
Issue (Month): C ()
Pages: 57-66

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Handle: RePEc:eee:jbfina:v:41:y:2014:i:c:p:57-66

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Web page: http://www.elsevier.com/locate/jbf

Related research

Keywords: Marginal conditional stochastic dominance; Almost stochastic dominance; Asset allocation; Optimal investment;

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  1. Clark, Ephraim & Kassimatis, Konstantinos, 2012. "An empirical analysis of marginal conditional stochastic dominance," Journal of Banking & Finance, Elsevier, Elsevier, vol. 36(4), pages 1144-1151.
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  4. Haim Shalit & Shlomo Yitzhaki, 2003. "An Asset Allocation Puzzle: Comment," American Economic Review, American Economic Association, American Economic Association, vol. 93(3), pages 1002-1008, June.
  5. Bali, Turan G. & Demirtas, K. Ozgur & Levy, Haim & Wolf, Avner, 2009. "Bonds versus stocks: Investors' age and risk taking," Journal of Monetary Economics, Elsevier, Elsevier, vol. 56(6), pages 817-830, September.
  6. Haim Shalit & Shlomo Yitzhaki, 2010. "How does beta explain stochastic dominance efficiency?," Review of Quantitative Finance and Accounting, Springer, Springer, vol. 35(4), pages 431-444, November.
  7. Moshe Leshno & Haim Levy, 2002. "Preferred by "All" and Preferred by "Most" Decision Makers: Almost Stochastic Dominance," Management Science, INFORMS, INFORMS, vol. 48(8), pages 1074-1085, August.
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  10. Ephraim Clark & Konstantinos Kassimatis, 2013. "International equity flows, marginal conditional stochastic dominance and diversification," Review of Quantitative Finance and Accounting, Springer, Springer, vol. 40(2), pages 251-271, February.
  11. Schechtman, Edna & Shelef, Amit & Yitzhaki, Shlomo & Zitikis, Ričardas, 2008. "Testing Hypotheses About Absolute Concentration Curves And Marginal Conditional Stochastic Dominance," Econometric Theory, Cambridge University Press, vol. 24(04), pages 1044-1062, August.
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  13. Lizyayev, Andrey & Ruszczyński, Andrzej, 2012. "Tractable Almost Stochastic Dominance," European Journal of Operational Research, Elsevier, Elsevier, vol. 218(2), pages 448-455.
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