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Dynamic Portfolio Choice with Parameter Uncertainty and the Economic Value of Analysts' Recommendations

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Author Info

  • Jakša Cvitanić
  • Ali Lazrak
  • Lionel Martellini
  • Fernando Zapatero

Abstract

We derive a closed-form solution for the optimal portfolio of a nonmyopic utility maximizer who has incomplete information about the alphas or abnormal returns of risky securities. We show that the hedging component induced by learning about the expected return can be a substantial part of the demand. Using our methodology, we perform an "ex ante" empirical exercise, which shows that the utility gains resulting from optimal allocation are substantial in general, especially for long horizons, and an "ex post" empirical exercise, which shows that analysts' recommendations are not very useful. (JEL C61, G11, G24) Copyright 2006, Oxford University Press.

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Bibliographic Info

Article provided by Society for Financial Studies in its journal The Review of Financial Studies.

Volume (Year): 19 (2006)
Issue (Month): 4 ()
Pages: 1113-1156

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Handle: RePEc:oup:rfinst:v:19:y:2006:i:4:p:1113-1156

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Cited by:
  1. Lundtofte, Frederik, 2005. "Expected Life-Time Utility and Hedging Demands in a Partially Observable Economy," Working Papers 2005:17, Lund University, Department of Economics.
  2. Wachter, Jessica A. & Warusawitharana, Missaka, 2009. "Predictable returns and asset allocation: Should a skeptical investor time the market?," Journal of Econometrics, Elsevier, vol. 148(2), pages 162-178, February.
  3. Nina Boyarchenko & Mario Cerrato & John Crosby & Stewart Hodges, 2012. "No good deals—no bad models," Staff Reports 589, Federal Reserve Bank of New York.
  4. Lubos Pastor & Pietro Veronesi, 2009. "Learning in Financial Markets," NBER Working Papers 14646, National Bureau of Economic Research, Inc.
  5. Jules H. van Binsbergen & Michael W. Brandt & Ralph S.J. Koijen, 2006. "Optimal Decentralized Investment Management," NBER Working Papers 12144, National Bureau of Economic Research, Inc.
  6. Zvi Bodie & J�r�me Detemple & Marcel Rindisbacher, 2009. "Life-Cycle Finance and the Design of Pension Plans," Annual Review of Financial Economics, Annual Reviews, vol. 1(1), pages 249-286, November.
  7. Bradford Cornell & Jakša Cvitanić & Levon Goukasian, 2010. "Beliefs regarding fundamental value and optimal investing," Annals of Finance, Springer, vol. 6(1), pages 83-105, January.
  8. Elías Albagli, 2013. "Investment Horizons and Asset Prices under Asymmetric Information," Working Papers Central Bank of Chile 709, Central Bank of Chile.
  9. Jin-Ray Lu & Chih-Ming Chan & Wen-Shen Li, 2011. "Portfolio Selections with Innate Learning Ability," International Journal of Business and Economics, College of Business, and College of Finance, Feng Chia University, Taichung, Taiwan, vol. 10(3), pages 201-217, December.
  10. 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.
  11. Lioui, Abraham, 2013. "Time consistent vs. time inconsistent dynamic asset allocation: Some utility cost calculations for mean variance preferences," Journal of Economic Dynamics and Control, Elsevier, vol. 37(5), pages 1066-1096.

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