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Investment Behavior under Ambiguity: The Case of Pessimistic Decision Makers

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Author Info
Alexander Ludwig ()
Alexander Zimper (Mannheim Research Institute for the Economics of Aging (MEA))

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Abstract

We define pessimistic, respectively optimistic, investors as CEU (Choquet expected utility) decision makers who update their pessimistic, respectively optimistic, beliefs according to a pessimistic (Dempster-Shafer), respectively optimistic, update rule. This paper then demonstrates that, in contrast to optimistic investors, pessimistic investors may strictly prefer investing in an illiquid asset to investing in a liquid asset. Key to our result is the dynamic inconsistency of CEU decision making, implying that a CEU decision maker ex ante prefers a different strategy with respect to prematurely liquidating an uncertain long-term invest- ment project than after learning her liquidity needs. Investing in an illiquid asset then serves as a commitment device guaranteeing an ex ante favorable outcome.

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Paper provided by Mannheim Research Institute for the Economics of Aging, University of Mannheim in its series MEA discussion paper series with number 04060.

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Date of creation: 10 Nov 2004
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Handle: RePEc:xrs:meawpa:04060

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Find related papers by JEL classification:
D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
G20 - Financial Economics - - Financial Institutions and Services - - - General

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  2. Epstein Larry G. & Le Breton Michel, 1993. "Dynamically Consistent Beliefs Must Be Bayesian," Journal of Economic Theory, Elsevier, vol. 61(1), pages 1-22, October. [Downloadable!] (restricted)
  3. Gilboa, Itzhak & Schmeidler, David, 1989. "Maxmin expected utility with non-unique prior," Journal of Mathematical Economics, Elsevier, vol. 18(2), pages 141-153, April. [Downloadable!] (restricted)
  4. Larry G. Epstein & Martin Schneider, 2001. "Recursive Multiple-Priors," RCER Working Papers 485, University of Rochester - Center for Economic Research (RCER). [Downloadable!]
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  5. Tversky, Amos & Kahneman, Daniel, 1992. " Advances in Prospect Theory: Cumulative Representation of Uncertainty," Journal of Risk and Uncertainty, Springer, vol. 5(4), pages 297-323, October.
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  15. Eichberger, J. & Kelsey, D., 1996. "E-Capacities and the Ellsberg Paradox," Discussion Papers 96-13, Department of Economics, University of Birmingham.
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(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Ani Guerdjikova & Alexander Zimper, 2008. "Flexibility of choice versus reduction of ambiguity," Social Choice and Welfare, Springer, vol. 30(3), pages 507-526, April. [Downloadable!] (restricted)
    Other versions:
  2. Alexander Zimper & Alexander Ludwig, 2007. "Attitude polarization," MEA discussion paper series 07155, Mannheim Research Institute for the Economics of Aging (MEA), University of Mannheim. [Downloadable!]
    Other versions:
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