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Portfolio Implications of Cointegration Between Labor Income and Dividends

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  • Frank Jong

Abstract

This paper analyzes the implications of cointegration between labor income and dividends for the optimal portfolio weight for stocks. In a recent paper, Benzoni et al. (J Finance 62:2123–2167, 2007 ) claim that, as a result of cointegration, the optimal weight in stocks may be smaller for young investors than for older investors. This contradicts the traditional life-cycle models which typically imply portfolio weights that decrease with age. This paper shows that when stock returns are affected by other factors than dividend growth, for example due to time-varying discount rates, the portfolio implications of cointegration are much less severe. In a realistically calibrated model, the life-cycle pattern for the portfolio weight of stocks is flat, except for very young investors. Copyright Springer Science+Business Media New York 2012

Suggested Citation

  • Frank Jong, 2012. "Portfolio Implications of Cointegration Between Labor Income and Dividends," De Economist, Springer, vol. 160(4), pages 397-412, December.
    • Handle: RePEc:kap:decono:v:160:y:2012:i:4:p:397-412
    DOI: 10.1007/s10645-012-9195-8
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    References listed on IDEAS

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    1. Michael J. Brennan & Ashley W. Wang & Yihong Xia, 2004. "Estimation and Test of a Simple Model of Intertemporal Capital Asset Pricing," Journal of Finance, American Finance Association, vol. 59(4), pages 1743-1776, August.
    2. 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.
    3. Deborah Lucas, 2010. "Measuring and Managing Federal Financial Risk," NBER Books, National Bureau of Economic Research, Inc, number luca07-1, March.
    4. repec:fth:calaec:4-98 is not listed on IDEAS
    5. JULES H. Van BINSBERGEN & RALPH S. J. KOIJEN, 2010. "Predictive Regressions: A Present‐Value Approach," Journal of Finance, American Finance Association, vol. 65(4), pages 1439-1471, August.
    6. Lucas, Deborah (ed.), 2010. "Measuring and Managing Federal Financial Risk," National Bureau of Economic Research Books, University of Chicago Press, number 9780226496580, December.
    7. John Geanokoplos & Stephen P. Zeldes, 2010. "Market Valuation of Accrued Social Security Benefits," NBER Chapters, in: Measuring and Managing Federal Financial Risk, pages 213-233, National Bureau of Economic Research, Inc.
    8. Michael J. Brennan & Yihong Xia, 2002. "Dynamic Asset Allocation under Inflation," Journal of Finance, American Finance Association, vol. 57(3), pages 1201-1238, June.
    9. Antonios Sangvinatsos & Jessica A. Wachter, 2005. "Does the Failure of the Expectations Hypothesis Matter for Long‐Term Investors?," Journal of Finance, American Finance Association, vol. 60(1), pages 179-230, February.
    10. De Jong, Frank, 2008. "Valuation of pension liabilities in incomplete markets," Journal of Pension Economics and Finance, Cambridge University Press, vol. 7(3), pages 277-294, November.
    11. Henning Bohn, 1999. "Should the Social Security Trust Fund Hold Equities," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 2(3), pages 666-697, July.
    12. de Jong, Frank, 2008. "Pension fund investments and the valuation of liabilities under conditional indexation," Insurance: Mathematics and Economics, Elsevier, vol. 42(1), pages 1-13, February.
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    Cited by:

    1. Algirdas Bartkus, 2013. "On Future Pensions From The Second Pillar Pension Funds," Organizations and Markets in Emerging Economies, Faculty of Economics, Vilnius University, vol. 4(1).
    2. Algirdas Bartkus, 2014. "The Analysis Of The Second Pillar Pension Funds And The Role Of Expectations," Organizations and Markets in Emerging Economies, Faculty of Economics, Vilnius University, vol. 5(2).

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    More about this item

    Keywords

    Life-cycle portfolio choice; Cointegration; Human capital; G11;
    All these keywords.

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions

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