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A portfolio choice model with utility from anticipation of future consumption and stock market mean reversion

  • Kuznitz, Arik
  • Kandel, Shmuel
  • Fos, Vyacheslav

This paper studies a consumption and portfolio choice problem of a long-lived investor who derives pleasure not only from current consumption, but also from the contemplation of future consumption. The model assumes that all effects of future consumption on current well being are assumed to enter through a single variable--namely, the "stock of future consumption"--analogously to habit-formation models. The main implications of the model concern the incentives for savings, and the fundamental sources of risk in financial markets. It is shown that, when the stock market exhibits mean reversion, deriving utility from anticipation of future consumption has a tremendous effect on portfolio choice. In particular, mean allocation to stocks is much lower under the proposed preferences relative to the standard preferences, especially for high risk averse investors.

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Article provided by Elsevier in its journal European Economic Review.

Volume (Year): 52 (2008)
Issue (Month): 8 (November)
Pages: 1338-1352

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Handle: RePEc:eee:eecrev:v:52:y:2008:i:8:p:1338-1352
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