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Costly Portfolio Adjustment

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  • Yosef Bonaparte
  • Russell Cooper
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    Abstract

    This paper studies the dynamic optimization problem of a household when portfolio adjustment is costly. The analysis is motivated by the observation that on an annual basis, less than 71% of stockholders typically adjust their portfolio of common stocks. We use this, and related observations, to estimate the parameters of household preferences and portfolio adjustment costs. We find significant adjustment costs, beyond the direct costs of buying and selling assets. These adjustment costs and the consequent inactivity in portfolio adjustment imply that inferences drawn about household risk aversion and the elasticity of intertemporal substitution are biased: household risk aversion is lower compared to other estimates and it is not equal to the inverse of the elasticity of intertemporal substitution.

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    Bibliographic Info

    Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 15227.

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    Date of creation: Aug 2009
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    Handle: RePEc:nbr:nberwo:15227

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    1. Hall, Robert E, 1988. "Intertemporal Substitution in Consumption," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 96(2), pages 339-57, April.
    2. Christopher D Carroll, 1997. "Death to the Log-Linearized Consumption euler Equation! (And Very Poor Health to the Second-Order Approximation)," Economics Working Paper Archive, The Johns Hopkins University,Department of Economics 390, The Johns Hopkins University,Department of Economics.
    3. Mankiw, N.G. & Zeldes, S.P., 1990. "The Consumption Of Stockholders And Non-Stockholders," Weiss Center Working Papers, Wharton School - Weiss Center for International Financial Research 23-90, Wharton School - Weiss Center for International Financial Research.
    4. Heaton, John & Lucas, Deborah J, 1996. "Evaluating the Effects of Incomplete Markets on Risk Sharing and Asset Pricing," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 104(3), pages 443-87, June.
    5. Rust, John, 1987. "Optimal Replacement of GMC Bus Engines: An Empirical Model of Harold Zurcher," Econometrica, Econometric Society, Econometric Society, vol. 55(5), pages 999-1033, September.
    6. Hansen, Lars Peter & Singleton, Kenneth J, 1982. "Generalized Instrumental Variables Estimation of Nonlinear Rational Expectations Models," Econometrica, Econometric Society, Econometric Society, vol. 50(5), pages 1269-86, September.
    7. Annette Vissing-Jorgensen, 2002. "Limited Asset Market Participation and the Elasticity of Intertemporal Substitution," NBER Working Papers 8896, National Bureau of Economic Research, Inc.
    8. Annette Vissing-Jorgensen, 2002. "Limited Asset Market Participation and the Elasticity of Intertemporal Substitution," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 110(4), pages 825-853, August.
    9. Hansen, Lars Peter & Singleton, Kenneth J, 1983. "Stochastic Consumption, Risk Aversion, and the Temporal Behavior of Asset Returns," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 91(2), pages 249-65, April.
    10. Jon Willis & Russell Cooper & John Haltiwanger, 2005. "GMM for Discrete Choice Models: A Capital Accumulation Application," 2005 Meeting Papers, Society for Economic Dynamics 719, Society for Economic Dynamics.
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    Cited by:
    1. Kim, Hugh H. & Maurer, Raimond & Mitchell, Olivia S., 2013. "Time is money: Life cycle rational inertia and delegation of investment management," CFS Working Paper Series 2013/08, Center for Financial Studies (CFS).
    2. Fernando E. Alvarez & Luigi Guiso & Francesco Lippi, 2010. "Durable consumption and asset management with transaction and observation costs," NBER Working Papers 15835, National Bureau of Economic Research, Inc.
    3. Michael Bleaney & Paul Mizen & Veronica Veleanu, 2013. "Bond Spreads and Economic Activity in Eight European Economies," Discussion Papers 2013/09, University of Nottingham, Centre for Finance, Credit and Macroeconomics (CFCM).
    4. Ananth Ramanarayanan & Simona E. Cociuba, 2011. "International Risk Sharing with Endogenously Segmented Asset Markets," 2011 Meeting Papers 853, Society for Economic Dynamics.
    5. Gust, Christopher & López-Salido, David, 2014. "Monetary policy and the cyclicality of risk," Journal of Monetary Economics, Elsevier, Elsevier, vol. 62(C), pages 59-75.
    6. Khorunzhina, Natalia, 2011. "Dynamic Stock Market Participation of Households," MPRA Paper 35310, University Library of Munich, Germany.
    7. Yosef Bonaparte & Russell Cooper, 2010. "Rationalizing Trading Frequency and Returns," Economics Working Papers, European University Institute ECO2010/25, European University Institute.
    8. Michael Bleaney & Paul Mizen & Veronica Veleanu, . "Bond Spreads as Predictors of Economic Activity in Eight European Economies," Discussion Papers 12/11, University of Nottingham, Centre for Finance, Credit and Macroeconomics (CFCM).
    9. Gust, Christopher & López-Salido, J David, 2010. "Monetary Policy and the Cyclicality of Risk," CEPR Discussion Papers, C.E.P.R. Discussion Papers 7727, C.E.P.R. Discussion Papers.
    10. Christopher Gust & David López-Salido, 2009. "Portfolio inertia and the equity premium," International Finance Discussion Papers, Board of Governors of the Federal Reserve System (U.S.) 984, Board of Governors of the Federal Reserve System (U.S.).

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