A Reexamination of the Relationship Between Preferences and Moment Orderings by Rational Risk-Averse Investors
AbstractThis article examines the relationship between risk, return, skewness, and utility-based preferences. Examples are constructed showing that, for any commonly used utility function, it is possible to have two continuous unimodal random variables X and Y with positive and equal means, X having a larger variance and lower positive skewness than Y, and yet X has larger expected utility than Y, contrary to persistent folklore concerning U‴ > 0 implying skewness preference for risk averters. In additon, it is shown that ceteris paribus analysis of preferences and moments, as occasionally used in the literature, is impossible since equality of higher-order central moments implies the total equality of the distributions involved. The Geneva Papers on Risk and Insurance Theory (1998) 23, 127–137. doi:10.1023/A:1008674127340
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Bibliographic InfoArticle provided by Palgrave Macmillan in its journal The Geneva Papers on Risk and Insurance Theory.
Volume (Year): 23 (1998)
Issue (Month): 2 (December)
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- Kaas, Rob & Dhaene, Jan & Goovaerts, Marc J., 2000. "Upper and lower bounds for sums of random variables," Insurance: Mathematics and Economics, Elsevier, vol. 27(2), pages 151-168, October.
- Eichner, Thomas & Wagener, Andreas, 2012. "Tempering effects of (dependent) background risks: A mean-variance analysis of portfolio selection," Journal of Mathematical Economics, Elsevier, vol. 48(6), pages 422-430.
- repec:ebl:ecbull:v:7:y:2007:i:2:p:1-9 is not listed on IDEAS
- Christodoulakis, George & Peel, David, 2006. "The relationship between expected utility and higher moments for distributions captured by the Gram-Charlier class," Finance Research Letters, Elsevier, vol. 3(4), pages 273-276, December.
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