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Preferred by "All" and Preferred by "Most" Decision Makers: Almost Stochastic Dominance

  • Moshe Leshno

    ()

    (School of Business Administration, The Hebrew University of Jerusalem, Jerusalem 91905, Israel)

  • Haim Levy

    ()

    (School of Business Administration, The Hebrew University of Jerusalem, Jerusalem 91905, Israel)

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    While "most" decision makers may prefer one uncertain prospect over another, stochastic dominance rules as well as other investment criteria, will not reveal this preference due to some extreme utility functions in the case of even a very small violation of these rules. Such strict rules relate to "all" utility functions in a given class including extreme ones which presumably rarely represents investors' preference. In this paper we establish almost stochastic dominance (ASD) rules which formally reveal a preference for "most" decision makers, but not for "all" of them. The ASD rules reveal that choices which probably conform with "most" decision makers also solve some debates, e.g., showing, as practitioners claim, an ASD preference for a higher proportion of stocks in the portfolio as the investment horizon increases, a conclusion which is not implied by the well-known stochastic dominance rules.

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    File URL: http://dx.doi.org/10.1287/mnsc.48.8.1074.169
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    Article provided by INFORMS in its journal Management Science.

    Volume (Year): 48 (2002)
    Issue (Month): 8 (August)
    Pages: 1074-1085

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    Handle: RePEc:inm:ormnsc:v:48:y:2002:i:8:p:1074-1085
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    1. Hadar, Josef & Russell, William R, 1969. "Rules for Ordering Uncertain Prospects," American Economic Review, American Economic Association, vol. 59(1), pages 25-34, March.
    2. Meyer, Jack, 1977. "Choice among distributions," Journal of Economic Theory, Elsevier, vol. 14(2), pages 326-336, April.
    3. Hanoch, Giora & Levy, Haim, 1970. "Efficient Portfolio Selection with Quadratic and Cubic Utility," The Journal of Business, University of Chicago Press, vol. 43(2), pages 181-89, April.
    4. William J. Baumol, 1963. "An Expected Gain-Confidence Limit Criterion for Portfolio Selection," Management Science, INFORMS, vol. 10(1), pages 174-182, October.
    5. Rothschild, Michael & Stiglitz, Joseph E., 1970. "Increasing risk: I. A definition," Journal of Economic Theory, Elsevier, vol. 2(3), pages 225-243, September.
    6. Haim Levy, 1996. "Investment diversification and investment specialization and the assumed holding period," Applied Mathematical Finance, Taylor & Francis Journals, vol. 3(2), pages 117-134.
    7. G. Hanoch & H. Levy, 1969. "The Efficiency Analysis of Choices Involving Risk," Review of Economic Studies, Oxford University Press, vol. 36(3), pages 335-346.
    8. Harry Markowitz, 1952. "Portfolio Selection," Journal of Finance, American Finance Association, vol. 7(1), pages 77-91, 03.
    9. Shlomo Benartzi & Richard H. Thaler, 1999. "Risk Aversion or Myopia? Choices in Repeated Gambles and Retirement Investments," Management Science, INFORMS, vol. 45(3), pages 364-381, March.
    10. Haim Levy, 1992. "Stochastic Dominance and Expected Utility: Survey and Analysis," Management Science, INFORMS, vol. 38(4), pages 555-593, April.
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