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Portfolio Selection with Monotone Mean-Variance Preferences

Author

Listed:
  • Fabio Maccheroni

    (Istituto di Metodi Quantitativi and IGIER, Universit� Bocconi)

  • Massimo Marinacci

    (Collegio Carlo Alberto and Universit� di Torino)

  • Aldo Rustichini

    (Department of Economics, University of Minnesota)

  • Marco Taboga

    (Bank of Italy, Economic Outlook and Monetary Policy Department)

Abstract

We propose a portfolio selection model based on a class of monotone preferences that coincide with mean-variance preferences on their domain of monotonicity, but differ where mean-variance preferences fail to be monotone and are therefore not economically meaningful. The functional associated to this new class of preferences is the best approximation of the mean-variance functional among those which are monotonic. We solve the portfolio selection problem and we derive a monotone version of the CAPM, which has two main features: (i) it is, unlike the standard CAPM model, arbitrage free, (ii) it has empirically testable CAPM-like relations. The monotone CAPM has thus a sounder theoretical foundation than the standard CAPM and a comparable empirical tractability.

Suggested Citation

  • Fabio Maccheroni & Massimo Marinacci & Aldo Rustichini & Marco Taboga, 2008. "Portfolio Selection with Monotone Mean-Variance Preferences," Temi di discussione (Economic working papers) 664, Bank of Italy, Economic Research and International Relations Area.
    • Handle: RePEc:bdi:wptemi:td_664_99
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    References listed on IDEAS

    as
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    JEL classification:

    • C6 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling
    • D8 - Microeconomics - - Information, Knowledge, and Uncertainty
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions

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