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Risk Aversion, Entrepreneurial Risk, and Portfolio Selection

Author

Listed:
  • Hongyan Fang

    (Washington State University)

  • John R. Nofsinger

    (Washington State University)

Abstract

Do entrepreneurs consider the risk of their business equity when making investment portfolio allocations? Many people compartmentalize different risks and consider them separately, called mental accounting. Alternatively, the risk substitution hypothesis suggests that entrepreneurs would offset high business income risk by selecting a more conservative investment portfolio. we examine these two hypotheses which have implications for measuring risk tolerance. We find that households with proprietary income show higher risk tolerance than non-entrepreneurs do. Further evidence suggests that a comprehensive measure of relative risk aversion that incorporates households' business income is more reliable and more consistent with their reported risk preference than other measures that do not include business income. In supportive of the risk substitution hypothesis, households do appear to hedge the risk from their private business by decreasing their portion of other risky assets in their investment portfolio.

Suggested Citation

  • Hongyan Fang & John R. Nofsinger, 2009. "Risk Aversion, Entrepreneurial Risk, and Portfolio Selection," Journal of Entrepreneurial Finance, Pepperdine University, Graziadio School of Business and Management, vol. 13(2), pages 25-55, Fall.
  • Handle: RePEc:pep:journl:v:13:y:2009:i:2:p:25-55
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    References listed on IDEAS

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    Cited by:

    1. repec:bla:jrinsu:v:84:y:2017:i:1:p:35-72 is not listed on IDEAS
    2. Cesar Tamayo, 2015. "Investor protection and optimal contracts under risk aversion and costly state verification," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 59(3), pages 547-577, August.
    3. repec:eee:jbfina:v:81:y:2017:i:c:p:181-199 is not listed on IDEAS

    More about this item

    Keywords

    Risk Aversion; Entrepreneurial Risk; Portfolio Selection; entrepreneurship; risk substitution hypothesis; risk preference;

    JEL classification:

    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • M13 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Business Administration - - - New Firms; Startups

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