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Portfolio Choice under Inflation: Are Popular Recommendations Consistent with Rational Behavior?

Author

Listed:
  • Munk, Claus

    (University of Southern Denmark)

  • Sørensen, Carsten

    (Department of Finance, Copenhagen Business School)

  • Vinther, Tina Nygaard

    (SimCorp Danmark A/S)

Abstract

We consider the optimal asset allocation choice of an investor who can invest in cash (a money market bank account), nominal bonds, and stocks (the stock index). The investor faces an incomplete market setting and is not able to perfectly hedge long run real interest rate risk using the available securities. The optimal invest- ment strategy is consistent with the following features of popular investment advice which have been pointed out as puzzles: (i) a decreasing fraction of stocks in the portfolio as time passes towards the investment horizon, and (ii) a higher bond to stock ratio for more conservative (less risk tolerant) investors (Canner, Mankiw and Weil, 1997). The model for asset price dynamics is calibrated to US market data and, furthermore, risk aversion parameters and time horizons are calibrated so as to obtain a match between the optimal asset allocations and observed investment recommendations for \aggressive," \moderate," and \conservative" investor groups with di®erent investment horizons.

Suggested Citation

  • Munk, Claus & Sørensen, Carsten & Vinther, Tina Nygaard, 2001. "Portfolio Choice under Inflation: Are Popular Recommendations Consistent with Rational Behavior?," Working Papers 2001-6, Copenhagen Business School, Department of Finance.
    • Handle: RePEc:hhs:cbsfin:2001_006
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    File URL: http://openarchive.cbs.dk/cbsweb/handle/10398/7170
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    References listed on IDEAS

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    Cited by:

    1. Han, Nan-Wei & Hung, Mao-Wei, 2006. "Estimated inflation rate, consumption and portfolio decision," Economics Letters, Elsevier, vol. 92(3), pages 402-408, September.

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    More about this item

    Keywords

    Investment; Nominal bonds; Stocks; Market setting; Securities; Investment strategy; Risk;
    All these keywords.

    JEL classification:

    • G00 - Financial Economics - - General - - - General
    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G30 - Financial Economics - - Corporate Finance and Governance - - - General

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