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Owner-Occupied Housing and the Composition of the Household Portfolio Over the Life-Cycle

  • Marjorie Flavin
  • Takashi Yamashita
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    This paper studies the impact of the portfolio constraint imposed by the consumption demand for housing (the 'housing constraint') on the household's optimal holdings of financial assets. Since the ratio of housing to net worth declines as the household accumulates wealth, the housing constraint induces a life-cycle pattern in the portfolio shares of stocks and bonds. For reasonable degrees of risk aversion, the changes in portfolio composition over the life-cycle can be dramatic. For example, for a coefficient of relative risk aversion of 3, the ratio of stocks to net worth in the optimal portfolio is .09 for the youngest households (ages 18-30) and .60 for the oldest (age 70 and over). Using data from the PSID on home values to construct household level panel data on the real after-tax return to owner-occupied housing, as well as data on the returns to financial assets, the paper estimates the vector of expected returns and the covariance matrix for the set of assets consisting of housing, mortgages, stocks, Treasury bonds, and T-bills. Numerical methods are used to calculate the mean-variance efficient frontier, conditional on different values of the housing constraint, and the optimal portfolios associated with different levels of relative risk aversion.

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    File URL: http://www.nber.org/papers/w6389.pdf
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    Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 6389.

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    Date of creation: Jan 1998
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    Publication status: published as Flavin, Majorie and Takashi Yamashita. "Owner-Occupied Housing And The Composition Of The Household Portfolio," American Economic Review, 2002, v92(1,Mar), 345-362.
    Handle: RePEc:nbr:nberwo:6389
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    1. William N. Goetzmann & Roger G. Ibbotson, 1990. "The Performance Of Real Estate As An Asset Class," Journal of Applied Corporate Finance, Morgan Stanley, vol. 3(1), pages 65-76.
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    5. Robert S. Pindyck, 1986. "Risk Aversion and Determinants of Stock Market Behavior," NBER Working Papers 1921, National Bureau of Economic Research, Inc.
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    8. Joyce Manchester, 1989. "The Baby Boom, Housing and Loanable Funds," Canadian Journal of Economics, Canadian Economics Association, vol. 22(1), pages 128-49, February.
    9. Robert B. Barsky & Miles S. Kimball & F. Thomas Juster & Matthew D. Shapiro, 1995. "Preference Parameters and Behavioral Heterogeneity: An Experimental Approach in the Health and Retirement Survey," NBER Working Papers 5213, National Bureau of Economic Research, Inc.
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    16. N. Gregory Mankiw & David N. Weil, 1988. "The Baby Boom, The Baby Bust, and the Housing Market," NBER Working Papers 2794, National Bureau of Economic Research, Inc.
    17. Robert B. Barsky & F. Thomas Juster & Miles S. Kimball & Matthew D. Shapiro, 1997. "Preference Parameters and Behavioral Heterogeneity: An Experimental Approach in the Health and Retirement Study," The Quarterly Journal of Economics, Oxford University Press, vol. 112(2), pages 537-579.
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