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Optimal Age-Based Portfolios with Stochastic Investment Opportunity Sets

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Listed:
  • Doriana Ruffino

    () (Boston University, Department of Economics)

  • Jonathan Treussard

    () (Boston University, Department of Economics)

Abstract

In an environment with stocks and short-term debt, random changes in the risk- reward frontier produce hedging demands for equities, implying that portfolio policies supporting optimal life-cycle consumption are rarely mean-variance e¢ cient. Pursuing optimal life-cycle portfolio policies is technologically feasible but it represents a sig- ni?cant burden for individuals and ?nancial ?rms acting as ?duciaries. As a result, investors often rely on relatively simple investment heuristics, most often age-based portfolio policies that rebalance the investor?s portfolio as a function of age alone. We ?nd that (i) the welfare losses associated with these policies are often negligible, so that the trade-o¤ between ?rst-best policies and simpler optimal age-based policies likely favors the approximate policy, and that (ii) not only do initial age-based portfolios display the same overall pattern as ?rst-best portfolios but they are also always within the same order of magnitude.

Suggested Citation

  • Doriana Ruffino & Jonathan Treussard, 2006. "Optimal Age-Based Portfolios with Stochastic Investment Opportunity Sets," Boston University - Department of Economics - Working Papers Series WP2006-041, Boston University - Department of Economics.
  • Handle: RePEc:bos:wpaper:wp2006-041
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    References listed on IDEAS

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    1. Merton, Robert C, 1973. "An Intertemporal Capital Asset Pricing Model," Econometrica, Econometric Society, vol. 41(5), pages 867-887, September.
    2. George Chacko & Luis M. Viceira, 2005. "Dynamic Consumption and Portfolio Choice with Stochastic Volatility in Incomplete Markets," Review of Financial Studies, Society for Financial Studies, vol. 18(4), pages 1369-1402.
    3. Jérôme B. Detemple & René Garcia & Marcel Rindisbacher, 2003. "A Monte Carlo Method for Optimal Portfolios," Journal of Finance, American Finance Association, vol. 58(1), pages 401-446, February.
    4. Merton, Robert C., 1971. "Optimum consumption and portfolio rules in a continuous-time model," Journal of Economic Theory, Elsevier, vol. 3(4), pages 373-413, December.
    5. MacKinlay, A. Craig, 1995. "Multifactor models do not explain deviations from the CAPM," Journal of Financial Economics, Elsevier, vol. 38(1), pages 3-28, May.
    6. Jonathan Treussard, 2005. "Life-Cycle Consumption Plans and Portfolio Policies in a Heath-Jarrow-Morton Economy," Boston University - Department of Economics - Working Papers Series WP2005-033, Boston University - Department of Economics.
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