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Behavior Finance and Estimation Risk in Stochastic Portfolio Optimization

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  • José Luiz Barros Fernandes
  • Juan Ignacio Peña
  • Benjamin Miranda Tabak

Abstract

The objective of this paper is twofold. The first is to incorporate mental accounting, loss-aversion, asymmetric risk-taking behavior, and probability weighting in a multi-period portfolio optimization for individual investors. While these behavioral biases have previously been identified in the literature, their overall impact during the determination of optimal asset allocation in a multi-period analysis is still missing. The second objective is to account for the estimation risk in the analysis. Considering 26 daily index stock data over the period from 1995 to 2007, we empirically evaluate our model (BRATE – Behavior Resample Adjusted Technique) against the traditional Markowitz model.

Suggested Citation

  • José Luiz Barros Fernandes & Juan Ignacio Peña & Benjamin Miranda Tabak, 2009. "Behavior Finance and Estimation Risk in Stochastic Portfolio Optimization," Working Papers Series 184, Central Bank of Brazil, Research Department.
  • Handle: RePEc:bcb:wpaper:184
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    References listed on IDEAS

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    1. Davies, G.B. & Satchell, S.E., 2004. "Continuous Cumulative Prospect Theory and Individual Asset Allocation," Cambridge Working Papers in Economics 0467, Faculty of Economics, University of Cambridge.
    2. Martin Vlcek, 2005. "Portfolio Choice with Loss Aversion, Asymmetric Risk-Taking Behavior and Segregation of Riskless Opportunities," Swiss Finance Institute Research Paper Series 06-27, Swiss Finance Institute, revised Apr 2006.
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    Cited by:

    1. Lect. Aurora Murgea Ph. D, 2010. "Classical Lassical And Behavioural Finance In Investor Decision," Annals of University of Craiova - Economic Sciences Series, University of Craiova, Faculty of Economics and Business Administration, vol. 2(38), pages 1-12, May.

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