understanding dynamic mean variance asset allocation abstract we provide a new portfolio decomposition formula that sheds light on the economics of portfolio choice for investors following the mean variance mv criterion we show that the number of components of a dynamic portfolio strategy can be reduced to two the first is preference free and hedges the risk of a discount bond maturing at the investor s horizon while the second hedges the time variation in pseudo relative risk tolerance both components entail strong horizon effects in the dynamic asset allocation as a result of time varying risk tolerance and investment opportunity sets we also provide closed form solutions for the optimal portfolio strategy in the presence of market return predictability the model parameters are estimated over the period 1963 to 2012 for the u s market we show that i intertemporal hedging can be very large ii the mv criterion hugely understates the true extent of risk aversion for high values of the risk aversion parameter and the more so the shorter the investment horizon and iii the efficient frontiers seem problematic for investment horizons shorter than one year but satisfactory for large horizons overall adopting the mv model leads to acceptable results for medium and long term investors endowed with medium or high risk tolerance but to very problematic ones otherwise

hedge fund seeding via fees for seed swaps under idiosyncratic risk we develop a dynamic valuation model of the hedge fund seeding business by solving the consumption and portfolio choice problem for a risk averse manager who launches a hedge fund through a seeding vehicle this vehicle i e fees for seed swap specifies that a strategic partner seeder provides a critical amount of capital in exchange for participation in the funds revenue our results indicate that the new swap not only solves the serious problem of widespread financing constraints for new and early stage funds esfs managers but can be highly beneficial to both the manager and the seeder if structured properly

ambiguous volatility and asset pricing in continuous time we formulate a model of utility for a continuous time framework that captures aversion to ambiguity about both volatility and drift corresponding extensions of some basic results in asset pricing theory are presented first we derive arbitrage free pricing rules based on hedging arguments because ambiguous volatility implies market incompleteness hedging arguments determine prices only up to intervals in order to obtain sharper predictions we apply the model of utility to a representative agent endowment economy and study equilibrium asset returns a version of the consumption capital asset pricing model is derived and the effects of ambiguous volatility are described the author 2013 published by oxford university press on behalf of the society for financial studies all rights reserved for permissions please e mail journals permissions oup com oxford university press

preference heterogeneity and asset prices an exact solution abstract we introduce a general equilibrium model of a multi agent pure exchange economy and find a set of conditions that enable us to obtain explicit closed form solutions to the equilibrium interest rate stock price risk premium and stock market volatility when investors have heterogenous risk aversions because the market is dynamically complete full risk sharing obtains and a representative agent can be constructed though the risk aversion of this agent fluctuates over time with the state of the economy as the relative wealth distribution of the individual investors changes we show that preference heterogeneity can cause asset prices to be significantly more volatile than the underlying dividends and that it can lead to leverage like effects in volatility in the sense that volatility increases after stock market declines

an asset allocation puzzle comment should the proportion of risky assets in the risky part of an investor s portfolio depend on the investor s risk aversion according to basic financial theory in particular the mutual fund separation theorem with a riskless asset the answer is no the theorem states that rational investors should divide their assets between a riskless asset and a risky mutual fund the composition of which is the same for all investors risk aversion affects only the allocation between the riskless asset and the fund however niko canner et al 1997 cmw hereafter observed that popular investment advice does not conform to this theory they reported the stocks bonds and cash allocations recommended by four advisors for conservative moderate and aggressive investors as shown in table 1 which is reproduced from cmw the advisors recommend a bond stock ratio that varies directly with risk aversion for example fidelity recommends a bond stock ratio of 1 50 for a conservative more riskaverse investor a ratio of 1 00 for a moderate less risk averse investor and a ratio of 0 46 for an aggressive still less risk averse investor the inconsistency between such advice and the separation theorem is called an asset allocation puzzle by cmw they attempted to solve the puzzle by relaxing key assumptions in the theory but finally reached a negative conclusion although we cannot rule out the possibility that popular advice is consistent with some model of rational behavior we have so far been unable to find such a model p 181 however they suggested that consideration of intertemporal trading might help resolve the puzzle in the present paper we provide theoretical support for the popular advice the two key insights are that the investor s horizon may exceed the maturity of the cash asset and that the investor rebalances the portfolio as time passes if the investor s horizon exceeds the maturity of cash which might be a money market security with maturity of one to six months then cash is not the riskless asset as is commonly assumed in the basic theory in a theory allowing portfolio rebalancing as opposed to a buy and hold framework it is not unreasonable to assume that the investor can synthesize a riskless asset a zero coupon bond maturing at the horizon using a bond fund and cash then bonds will be both in the synthetic riskless asset and in the risky mutual fund and we show that in this case the theoretical bond stock ratio varies directly with risk aversion for any hyperbolic absolute risk aversion hara investor as an example of the type of results that a specific model can produce we provide a continuous time model with closed form solutions which produces theoretical bond stock ratios similar to the popular advice the present paper is organized as follows in the next section we analyze the popular advice in terms of the theory of mutual fund separation of david cass and joseph e stiglitz 1970 we show that this theory is relevant both in static and dynamic frameworks and use it to analyze the popular advice in complete and incomplete markets in section ii we analyze the popular advice in the context of robert c merton s 1971 continuous time statement of mutualfund separation and present an illustrative model in which a crra investor makes continuous time portfolio decisions under interest rate and stock price uncertainty in section iii numerical results are compared with the popular advice section iv is a conclusion bajeux besnainou department of finance school of business and public management george washington university 2023 g street nw washington dc 20052 jordan national economic research associates 1255 23rd street nw washington dc 20037 portait cnam and essec finance chair cnam 2 rue conte paris france this research was supported by a grant from the institute for quantitative investment research we thank two anonymous referees for their comments 1 hara functions include quadratic utility which is one way of justifying mean variance preferences and constant relative risk aversion crra utility both quadratic and crra utility were considered in the cmw analysis

a note on merton s optimum consumption and portfolio rules in a continuous time model in the paper optimum consumption and portfolio rules in a continuous time model by r c merton j econ theory 3 1971 373 413 solutions obtained in cases when marginal utility at zero consumption is finite are not feasible while they do satisfy the hamilton jacobi bellman equations they do not represent appropriate value functions because the boundary behavior near zero wealth is not satisfactorily dealt with in this note we specify the boundary behavior and characterize optimal solutions journal of economic literature classification numbers 022 213

risk aversion in a dynamic asset allocation experiment we conduct a controlled laboratory experiment in the spirit of merton 1971 in which subjects dynamically choose their portfolio allocation between a risk free and risky asset using the optimal allocation of an investor with hyperbolic absolute risk aversion hara utility we fit the experimental choices to characterize the risk profile of our participants despite substantial heterogeneity decreasing absolute risk aversion and increasing relative risk aversion are the predominant types we also find some evidence of increased risk taking after a gain finally the session level risk attitudes show a different profile than the individual descriptions of risk attitudes

optimal portfolio policies with borrowing and shortsale constraints abstract we characterize optimal intertemporal portfolio policies for investors with crra utility facing either a borrowing constraint or shortsale restrictions or both the optimal constrained portfolios are identified as optimal unconstrained portfolios for a higher riskless rate or for a subset of the risky assets or for a combination of the two settings our characterization is based on duality results in cvitanic and karatzas 1992 annals of applied probability 2 767 818 for optimal portfolio investment when portfolio values are more generally constrained to a closed convex nonempty subset of r n

an exploration of the forward premium puzzle in currency markets a standard empirical finding is that expected changes in exchange rates and interest rate differentials across countries are negatively related implying that uncovered interest rate parity is violated in the data this article provides new empirical evidence that suggests that violations of uncovered interest rate parity and its economic implications depend on the sign of the interest rate differentially a framework related to term structure models is developed to account for the puzzling relationship between expected changes in exchange rates and interest rate differentials estimation results suggest that a particular term structure model can account for the puzzling empirical evidence article published by oxford university press on behalf of the society for financial studies in its journal the review of financial studies

understanding the behavior of bank spreads in latin america abstract over the last decade many countries in latin america have eliminated interest rate ceilings reduced reserve requirements and stopped direct credit controls these market oriented reforms have encouraged financial deepening thereby producing considerable economic benefits to the countries nevertheless the persistence of high interest rate spreads has been a disquieting outcome of the reforms this paper explores the determinants of bank spreads in a systematic way for argentina bolivia chile colombia mexico peru and uruguay during the mid 1990s the analysis shows that high operating costs raise spreads as do high levels of non performing loans although the size of these effects differs across the countries in addition reserve requirements in a number of countries still act as a tax on banks that gets translated into a higher spread beyond bank specific variables uncertainty in the macroeconomic environment facing banks appears to increase interest spreads the combination of these microeconomic and macroeconomic factors is a cause for concern in latin america as spreads widen the cost of using the financial system becomes prohibitive to some potential borrowers in addition the results suggest that bank capital requirements may not prevent excessive risk taking by banks when bank spreads are high

dynamic portfolio choice with parameter uncertainty and the economic value of analysts recommendations we derive a closed form solution for the optimal portfolio of a non myopic utility maximizer who has incomplete information about the alphas or abnormal returns of risky securities we show that the hedging component induced by learning about the expected return can be a substantial part of the demand using our methodology we perform an ex ante empirical exercise which shows that the utility gains resulting from optimal allocation are substantial in general especially for long horizons and an ex post empirical exercise which shows that analysts recommendations are not very useful

optimal portfolio management with american capital guarantee abstract the aim of the paper is to investigate finite horizon portfolio strategies which maximize a utility criterion when a constraint is imposed on a terminal date european guarantee or on every intermediate date american guarantee we prove the optimality of the option based portfolio insurance method for both european and american cases when an expected crra utility function is maximized the american obpi is fully described in a black scholes environment as well as in the more general case of complete markets using the gittins index techniques developed by el karoui and karatzas 1995 optimality results are extended to general utility functions

monte carlo methods for security pricing the monte carlo approach has proved to be a valuable and flexible computational tool in modern finance this paper discusses some of the recent applications of the monte carlo method to security pricing problems with emphasis on improvements in efficiency we first review some variance reduction methods that have proved useful in finance then we describe the use of deterministic low discrepancy sequences also known as quasi monte carlo methods for the valuation of complex derivative securities we summarize some recent applications of the monte carlo method to the estimation of partial derivatives or risk sensitivities and to the valuation of american options we conclude by mentioning other applications

monte carlo computation of optimal portfolios in complete markets we introduce a method that relies exclusively on monte carlo simulation in order to compute numerically optimal portfolio values for utility maximization problems our method is quite general and only requires complete markets and knowledge of the dynamics of the security processes it can be applied regardless of the number of factors and of whether the agent derives utility from intertemporal consumption terminal wealth or both we also perform some comparative statics analysis our comparative statics show that risk aversion has by far the greatest influence on the value of the optimal portfolio

on optimal portfolio choice under stochastic interest rates abstract in an economy where interest rates and stock price changes follow fairly general stochastic processes we analyze the portfolio problem of an investor endowed with a non traded cash bond position he can trade on stocks the riskless asset and a futures contract written on the bond so as to maximize the expected utility of his terminal wealth when the investment opportunity set is driven by an arbitrary number of state variables the optimal portfolio strategy is known to contain a pure preference free hedge component a speculative element and merton breeden hedging terms against the fluctuations of each and every state variable while the first two components are well identified and easy to work out the implementation of the last ones is problematic as the investor must identify all the relevant state variables and estimate their distribution characteristics using the martingale approach we show that the optimal strategy can be simplified to include in addition to the pure hedge and speculative components only two merton breeden type hedging elements however large is the number of state variables the first one is associated with interest rate risk and the second one with the risk brought about by the co movements of the spot interest rate and the market prices of risk the implementation of the optimal strategy is thus much easier as it involves estimating the characteristics of the yield curve and the market prices of risk only rather than those of numerous a priori unknown state variables moreover the investor s horizon is shown explicitly to play a crucial role in the optimal strategy design in sharp contrast with the traditional decomposition finally the role of interest rate risk in actual portfolio risk management is emphasized

basel s value at risk capital requirement regulation an efficiency analysis abstract we analyze the optimal portfolio policies of expected utility maximizing agents under var capital requirement var cr regulation in comparison to the optimal policy under exogenously imposed var limit var l and limited expected loss lel regulations with var cr regulation the agent strategy consists of simultaneous decisions on both the portfolio var and on the implied amount of required eligible capital as a result the performance of var cr regulation depends on its design the parameter n and the agent preferences we show that an optimal var cr regulation allows the regulator on the one hand to completely eliminate the exposure to the largest losses which may jeopardize the existence of the institution and on the other hand to restrain the portfolio exposure to all other losses these results rationalize the current basel regulations however the analysis shows also that there is an optimal level of required eligible capital from the regulator standpoint counter intuitively any requirement above this optimal level is inefficient as it leads to a smaller amount of actually maintained eligible capital and thereby to a larger exposure to the most adverse states of the world unfortunately the current basel s range of required levels n 3 4 is within this inefficient range moreover with an inefficient regulation the agent might employ an inefficient reporting and disclosure procedure

who should buy long term bonds according to conventional wisdom long term bonds are appropriate for conservative long term investors this paper develops a model of optimal consumption and portfolio choice for infinite lived investors with recursive utility who face stochastic interest rates solves the model using an approximate analytical method and evaluates conventional wisdom as risk aversion increases the myopic component of risky asset demand disappears but the intertemporal hedging component does not conservative investors hold assets to hedge the risk that real interest rates will decline long term inflation indexed bonds are most suitable for this purpose but nominal bonds may also be used if inflation risk is low

shareholder value stakeholder management and social issues what s the bottom line we test the relationship between shareholder value stakeholder management and social issue participation building better relations with primary stakeholders like employees customers suppliers and communities could lead to increased shareholder wealth by helping firms develop intangible valuable assets which can be sources of competitive advantage on the other hand using corporate resources for social issues not related to primary stakeholders may not create value for shareholders we test these propositions with data from s p 500 firms and find evidence that stakeholder management leads to improved shareholder value while social issue participation is negatively associated with shareholder value copyright 2001 john wiley sons ltd

the role of portfolio constraints in the international propagation of shocks we study the comovement among stock prices and exchange rates in a three good three country centre periphery dynamic equilibrium model in which the centre s agents face portfolio constraints we characterize equilibrium in closed form for a broad class of portfolio constraints solving for stock prices terms of trade and portfolio holdings we show that portfolio constraints generate wealth transfers between the periphery countries and the centre which increase the comovement of the stock prices across the periphery we associate this excess comovement caused by portfolio constraints with the phenomenon known as contagion the model generates predictions consistent with other important empirical results such as amplification and flight to quality effects copyright 2008 wiley blackwell

an isomorphism between asset pricing models with and without linear habit formation we show an isomorphism between optimal portfolio selection or competitive equilibrium models with utilities incorporating linear habit formation and corresponding models without habit formation the isomorphism can be used to mechanically transform known solutions not involving habit formation to corresponding solutions with habit formation for example the constantinides 1990 and ingersoll 1992 solutions are mechanically obtained from the familiar merton solutions for the additive utility case without recourse to a bellman equation or first order conditions more generally recent solutions to portfolio selection problems with recursive utility and a stochastic investment opportunity set are readily transformed to novel solutions of corresponding problems with utility that combines recursivity with habit formation the methodology also applies in the context of hindy huang kreps 1992 preferences where our isomorphism shows that the solution obtained by hindy and huang 1993 can be mechanically transformed to dybvig s 1995 solution to the optimal consumption investment problem with consumption ratcheting this article presents a general method for solving asset pricing or portfolio selection models involving linear habit formation of the type studied by sundaresan 1989 constantinides 1990 detemple and zapatero 1991 ingersoll 1992 chapman 1998 and others the basic idea we pursue is that linear habit formation can be thought of as a redefinition of what constitutes consumption to include not only the current consumption rate but also a fictitious possibly negative consumption rate derived from past actual consumption by pricing out this fictitious consumption rate correctly the economy with linear habit formation can be mechanically transformed to an equivalent economy without habit formation this analysis simplifies and unifies existing results but also generates novel solutions for example together with the results of schroder and skiadas 1997 1999 our method produces optimal lifetime consumption and portfolio policies with preferences that combine recursive utility with habit formation under a stochastic

the role of risk aversion and intertemporal substitution in dynamic consumption portfolio choice with recursive utility abstract our objective is to understand how risk aversion and elasticity of intertemporal substitution under recursive utility affect dynamic consumption portfolio decisions for a three date model with a stochastic interest rate we obtain an analytic solution for the optimal policies we find that in general consumption and portfolio decisions depend on both risk aversion and elasticity of intertemporal substitution the size of risk aversion relative to unity determines the sign of the intertemporal hedging portfolio while elasticity of intertemporal substitution affects only its magnitude the portfolio weight is independent of elasticity of intertemporal substitution only for the case of a constant investment opportunity set

continuous time methods in finance a review and an assessment i survey and assess the development of continuous time methods in finance during the last 30 years the subperiod 1969 to 1980 saw a dizzying pace of development with seminal ideas in derivatives securities pricing term structure theory asset pricing and optimal consumption and portfolio choices during the period 1981 to 1999 the theory has been extended and modified to better explain empirical regularities in various subfields of finance this latter subperiod has seen significant progress in econometric theory computational and estimation methods to test and implement continuous time models capital market frictions and bargaining issues are being increasingly incorporated in continuous time theory the roots of modern continuous time methods in finance can be traced back to the seminal contributions of merton 1969 1971 1973b in the late 1960s and early 1970s merton 1969 pioneered the use of continuous time modeling in financial economics by formulating the intertemporal consumption and portfolio choice problem of an investor in a stochastic dynamic programming setting merton 1973b also showed how such a framework can be used to develop equilibrium asset pricing implications thereby significantly extending the asset pricing theory to richer dynamic settings and expanding the scope of applications of continuous time methods to study problems in financial economics 1 within a span of about 30 years from the publication of merton s inf luential papers continuous time methods have become an integral part of financial economics indeed in certain core areas in finance such as e g asset pricing derivatives valuation term structure theory and portfolio selection continuoustime methods have proved to be the most attractive way to conduct research and gain economic intuition the continuous time approach in these areas has produced models with a rich variety of testable implications the econometric theory for testing continuous time models has made rapid strides in the last decade and has thus kept pace with the impressive progress on the theoretical front one hopes that the actual empirical investigations and estimation using the new procedures will follow suit soon

the effectiveness of bank governance reforms in the wake of the financial crisis a stakeholder approach this study examines the impact of bank corporate governance reforms in the wake of the financial crisis these reforms correspond to criticism of shareholder focused agency based corporate governance practices and a renewed focus on the stakeholder impact of corporate governance lapses in the financial sector this study differs from previous studies of corporate governance in the financial sector in using performance indicators that proxy the interests of customers and the community drawing on data from 134 countries over an eight year period from 2004 to 2011 we find that the post crisis corporate governance reforms in the banking sector appear to be effective in promoting greater bank attention to non shareholder stakeholders interests this study provides a means to conceptualize measures of bank performance from a stakeholder perspective in order to test emerging ideas about governance effectiveness in the financial sector

why bank governance is different this paper reviews the pattern of bank failures during the financial crisis and asks whether there was a link with corporate governance it revisits the theory of bank governance and suggests a multi constituency approach that emphasizes the role of weak creditors the empirical evidence suggests that on average banks with stronger risk officers less independent boards and executives with less variable remuneration incurred fewer losses there is no evidence that institutional shareholders opposed aggressive risk taking the financial stability board published principles for sound compensation practices in 2009 and the basel committee on banking supervision issued principles for enhancing corporate governance in 1999 2006 and 2010 the reports have in common that shareholders retain residual control and executive pay continues to be aligned with shareholder interests however we argue that bank governance is different and requires more radical departures from traditional governance for non financial firms

a monte carlo method for optimal portfolios this paper proposes a new simulation based approach for optimal portfolio allocation in realistic environments with complex dynamics for the state variables and large numbers of factors and assets a first illustration involves a choice between equity and cash with nonlinear interest rate and market price of risk dynamics intertemporal hedging demands significantly increase the demand for stocks and exhibit low volatility we then analyze settings where stock returns are also predicted by dividend yields and where investors have wealth dependent relative risk aversion large scale problems with many assets including the nasdaq sp500 bonds and cash are also examined the question of optimal portfolio allocation has been of long standing interest for academics and practitioners in finance while the mean variance analysis of markowitz 1952 is still commonly used among portfolio managers it has been well understood since merton 1971 that long term investors would prefer portfolios that include hedging components to protect against fluctuations in their investment opportunities prompted by the seminal papers of merton 1969 1971 and samuelson 1969 studies have explored various aspects of the dynamic portfolio problem when asset prices follow diffusion processes e g richard 1975 this literature has relied for the most part on a dynamic programming approach to the problem more recent contributions by pliska 1986 karatzas lehoczky and shreve 1987 and cox and huang 1989 have proposed an alternative resolution method based on martingale techniques in the context of this approach an optimal portfolio formula was derived by ocone and karatzas 1991 this expression involves expectations of random variables depending on j6erme b detemple is at boston university school of management and cirano rene

dynamic hedging and extreme asset co movements the paper investigates the portfolio allocation effects of increased asset co movements during market downturns we develop a model for the stock price process that allows for increased and asymmetric dependence between extreme return realizations we isolate the portfolio hedging demands that arise due to extreme co movements and find a substantial shift of the portfolio holdings toward the risk free asset we demonstrate that accounting for dependence between extreme events in portfolio decisions leads to significant economic gains that stem primarily from intertemporal hedging motives these findings are robust along alternative modeling assumptions of extreme co movements and conditional correlation

on the fluctuations in consumption and market returns in the presence of labor and human capital an equilibrium analysis abstract we examine the effects of human capital on consumption stock market and other fluctuations in a general equilibrium continuous time model a representative consumer worker investor derives utility from consumption and leisure a representative firm demands labor as the sole input to a stochastic production technology driven by general possibly nonmultiplicative shocks for cobb douglas utility and multiplicative shocks labor is nonstochastic and consumption and stock market volatility are equated as under no human capital deviations from this are analyzed for logarithmic utility and constant elasticity of substitution production technology cases are identified where the presence of labor causes consumption to be smoother than the stock market

optimal consumption investment policies with undiversifiable income risk and liquidity constraints abstract this paper examines the continuous time optimal consumption and portfolio choice of an investor having an initial wealth endowment and an uncertain stream of income from non traded assets the income stream is not spanned by traded assets and the investor is not allowed to borrow against future income so the financial market is incomplete we solve the corresponding stochastic control problem numerically with the markov chain approximation method prove convergence of the method and study the optimal policies in particular we find that the implicit value the agent attaches to an uncertain income stream typically is much smaller in this incomplete market than it is in the otherwise identical complete market our results suggest that this is mainly due to the presence of liquidity constraints

the asset allocation puzzle is still a puzzle abstract intertemporal hedging activity has been advocated as being the solution to the asset allocation puzzle a standing assumption made in the dynamic asset allocation literature is that one or several bonds can perfectly hedge the interest rate risk and related market price of risk in the economy in a multi asset world ceteris paribus such an assumption biases the portfolio allocation of a non myopic investor towards bonds we extend the literature to allow for an incomplete bond market when solving for the optimal portfolio choice of a rational investor it is shown that investors with a high level of risk aversion could invest more in stocks than in bonds

nontraded asset valuation with portfolio constraints a binomial approach we provide a simple binomial framework to value american style derivatives subject to trading restrictions the optimal investment of liquid wealth is solved simultaneously with the early exercise decision of the nontraded derivative noshort sales constraints on the underlying asset manifest themselves in the form of an implicit dividend yield in the risk neutralized process for the underlying asset one consequence is that american call options may be optimally exercised prior to maturity even when the underlying asset pays no dividends applications to executive stock options eso are presented it is shown that the value of an eso could be substantially lower than that computed using the black scholes model we also analyze nontraded payoffs based on a price that is imperfectly correlated with the price of a traded asset the economics of asset pricing when one or more of the assets in the opportunity set are either subject to trading restrictions or entirely nontraded is a matter of great interest viewed from a practical perspective we have several important examples of such assets that are subject to trading restrictions pensions which represent perhaps the most significant of assets held by individual households are subject to trading restrictions it is typically the case that assets in pensions are not available for immediate consumption borrowing against pension assets is subject to significant direct and indirect costs by way of taxes and early withdrawal penalties human capital is another example housing investment is also illiquid and subject to significant transaction costs together pensions human capital and housing constitute a substantial part of a typical household s assets the significance of such nontraded assets for risk premia has already been noted by bewley 1982 there are other circumstances where lack of unrestricted trading plays an important role executive compensation plans usually take the this article was presented at boston university we would like to thank the editor bernard dumas and two anonymous referees for very helpful comments we also thank nalin kulatilaka and seminar participants for useful suggestions ganlin chang fei guan and carlton osakwe provided valuable research assistance j detemple acknowledges support from the social sciences and humanities research

optimal investment and consumption when allowing terminal debt we analyze a dynamic optimization problem which involves the consumption and investment of an investor with constant relative risk aversion for consumption but with a risk aversion for final wealth which does not necessarily imply that terminal wealth must always be positive we require risk aversion for terminal wealth to be positive but not monotone there is a point of maximal risk aversion at zero wealth and the investor may continue to consume when wealth is negative using dual optimization methods we can derive explicit solutions and we find that the optimal solution differs in a fundamental way from the case where risk aversion is monotone it turns out that the optimal consumption function is convex and concave at different wealth levels and that the optimal investment strategy may no longer be monotone as a function of the remaining time to invest and consume

equilibrium impact of value at risk regulation abstract we study the asset pricing implications of value at risk var regulation in incomplete continuous time economies with intermediate expenditure stochastic opportunity set and heterogeneous attitudes to risk our findings show that because of an anticipatory effect of var constraints on the optimal hedging demand the partial equilibrium incentives of var regulation can lead banks to increase their risk exposure in high volatility states in general equilibrium var constraints can produce unambiguously lower interest rates and higher equity sharpe ratios the var impact on equity volatility and equity expected returns is ambiguous

optimal consumption and portfolio policies when asset prices follow a diffusion process abstract we consider a consumption portfolio problem in continuous time under uncertainty a martingale technique is employed to characterize optimal consumption portfolio policies when there exist nonnegativity constraints on consumption and on final wealth we also provide a way to compute and verify optimal policies our verification theorem for optimal policies involves a linear partial differential equation unlike the nonlinear partial differential equation of dynamic programming the relationship between our approach and dynamic programming is discussed we demonstrate our technique by explicitly computing optimal policies in a series of examples in particular we solve the optimal consumption portfolio problem for hyperbolic absolute risk aversion utility functions when the asset prices follow a geometric brownian motion the optimal policies in this case are no longer linear when nonnegativity constraints on consumption and on final wealth are included by these examples one can see that our approach is much easier than the dynamic programming approach

a comparative study of portfolio insurance abstract this paper undertakes a comparative study of portfolio insurance under a variety of modeling strategies specifically we focus on portfolio insurers who derive utility from horizon wealth with marginal utility tending smoothly to infinity at some pre specified floor we solve for the optimal consumption portfolio wealth of these portfolio insurers and compare with constrained portfolio insurers and normal agents general equilibrium conditions are contrasted under pure exchange and production type models while the market price level is unambiguously increased under pure exchange under production the effect on market level is state dependent in both models the market volatility and risk premium are decreased by portfolio insurance the paper also investigates the possible relationship between portfolio insurance type trading strategies and market volatility

public policy markets and household coping strategies in bangladesh avoiding a food security crisis following the 1998 floods abstract at their peak the 1998 floods covered two thirds of bangladesh causing severe damage to the major rice crop and threatening the food security of tens of millions of households in this paper we first highlight the contribution of government policy interventions including trade liberalization in the early 1990s to stabilization of rice markets during and after the flood then using a panel data set covering 750 households in three rounds over a 13 month period we analyze impacts of the flood on household assets consumption and nutritional outcomes finally we present empirical estimates of the contribution of rice market stabilization and government transfers to household food consumption

valuation optimal asset allocation and retirement incentives of pension plans we provide a framework in which we link the valuation and asset allocation policies of defined benefits plans with the lifetime marginal productivity schedule of the worker and the pension plan formula in turn we examine the retirement policies that are implied by the primitives of the model and the value of pension obligations our model provides an explicit valuation formula for a stylized defined benefits plan the optimal asset allocation policies consist of the replicating portfolio of the pension liabilities and the growth optimum portfolio independent of the pension liabilities we show that the worker will retire when the ratio of pension benefits to current wages reaches a critical value which depends on the parameters of the pension plan and the discount rate using numerical techniques we analyze the feedback effect of retirement policies on the valuation of plans and on the asset allocation decisions article published by oxford university press on behalf of the society for financial studies in its journal the review of financial studies

optimal asset allocation with fixed term securities we investigate the optimal asset allocation of an investor who can invest in a fixed term security that is only traded at time 0 using a generalized martingale approach we solve the investor s optimal portfolio problem determine the optimal allocation to fixed term securities and provide a representation of trading strategies in terms of a liquidity related derivative we apply our approach to two benchmark scenarios fixed term fixed rate bank deposits and unspanned closed end securities that can only be traded at time 0 we show that both can be key parts of the investor s optimal asset mix and we investigate the dependence of optimal allocations to fixed term investments implied liquidity premia and other characteristics on the underlying model parameters

a model of capital and crises we develop a model in which the capital of the intermediary sector plays a critical role in determining asset prices the model is cast within a dynamic general equilibrium economy and the role for intermediation is derived endogenously based on optimal contracting considerations low intermediary capital reduces the risk bearing capacity of the marginal investor we show how this force helps to explain patterns during financial crises the model replicates the observed rise during crises in sharpe ratios conditional volatility correlation in price movements of assets held by the intermediary sector and fall in riskless interest rates

the equilibrium allocation of diffusive and jump risks with heterogeneous agents abstract we study a two agent pure exchange equilibrium subject to both nondiversifiable diffusive and jump risks agents can trade in a financial market consisting of a stock market a money market and an insurance market for jump risk heterogeneity is introduced through different levels of relative risk aversion in the framework of standard expected utility we find the surprising result that the less risk averse agent purchases insurance contracts against jump risk from the more risk averse agent this equilibrium allocation is linked to the non linear wealth sharing rule in such an economy and preserves the wealth effects studied by dumas rev financ stud 2 1989 157 in the case of pure diffusive risk since the benchmark economy with homogeneous agents generates no excess uncertainty in the stock market we study the effect on excess volatility and excess jump size solely due to different levels of relative risk aversion we observe 3 excess uncertainty in jump sizes for a reasonable specification of economic fundamentals

optimal risk sharing with effort and project choice we consider first best risk sharing problems in which the agent can control both the drift effort choice and the volatility of the underlying process project selection in a model of delegated portfolio management it is optimal to compensate the manager with an option type payoff where the functional form of the option is obtained as a solution to an ordinary differential equation in the general case the optimal contract is a fixed point of a functional that connects the agent s and the principal s maximization problems we apply martingale duality methods familiar from optimal consumption investment problems

on equilibrium asset price processes in this article we derive necessary and sufficient conditions that must be satisfied by equilibrium asset price processes in apure exchange economy we examine a world in which asset prices follow a diffusion process asset markets are dynamically complete all investors maximize their state independent expected utility of consumption at some future date and investors have nonrandom exogenous income we show that it is necessary and suffcient that the coefficients of an equilibrium diffusion price process satisfy a partial differential equation and a boundary condition we also examine how the dynamics of asset prices are related to the shape of the representative investor s utility function through the boundary condition for example in a constant volatility economy the expected instantaneous return of the market portfolio is mean reverting if and only if the relative risk aversion of the representative investor is decreasing in terminal wealth

precautionary savings and the permanent income hypothesis this paper derives the explicit solution of a dynamic stochastic optimal consumption problem for infinitely lived agents whose preferences exhibit in the presence of non diversifiable labour income uncertainty a constant elasticity of intertemporal substitution and constant absolute risk aversion the constancy of the elasticity of intertemporal substitution which implies that marginal utility at zero consumption is infinite guarantees that the non negativity constraint on consumption is never binding along the optimal path the assumption of constant absolute risk aversion allows an explicit computation of human wealth and provides a simple representation of the precautionary savings motive

banks and the false dichotomy in the comparative political economy of finance the wide ranging varieties of capitalism literature rests on a particular conception of banks and banking that the authors argue no longer reflects the reality of modern financial systems they take advantage of the greater information regarding bank activities revealed by the financial crisis to consider the reality across eight of the world s largest developed economies of the financial power of banks to act as bulwarks against market forces this article offers a marketbased banking framework that transcends the bank based capital market based dichotomy that dominates comparative political economy s consideration of financial systems and argues that future cpe research should focus on the activities of banks by demonstrating how market based banking increases market influences on the supply of credit the authors highlight an underappreciated source of financial market pressure on nonfinancial companies nfc s that can have a potential impact across the range of issues that the varieties of capitalism voc literature has seen as differentiating national systems this approach has implications in areas such as labor welfare innovation and flexibility

an intertemporal general equilibrium asset pricing model the case of diffusion information this paper provides sufficient conditions for the equilibrium price system and a vector of exogenously specified state variable processes to form a diffusion process in a pure exchange economy the conditions involve smoothness of agents utility functions and certain nice properties of the aggregate endowment process and the dividend processes of traded assets in place of the dynamic programming a martingale representation technique is utilized to characterize equilibrium portfolio policies this technique is useful even when there does not exist a finite dimensional markov structure in the economy and thus the markovian stochastic dynamic programming is not applicable a gents are shown to hold certain hedging mutual funds and the riskless asset in contrast to earlier results the market portfolio does not have a special role in hedging since the markets are dynamically complete when there exists a finite dimensional markov system in the economy the dimension of the hedging demand identified through the markovian dynamic programming may be much larger than that identified by the martingale method copyright 1987 by the econometric society

equilibrium prices in the presence of delegated portfolio management abstract this paper analyzes the asset pricing implications of commonly used portfolio management contracts linking the compensation of fund managers to the excess return of the managed portfolio over a benchmark portfolio the contract parameters the extent of delegation and equilibrium prices are all determined endogenously within the model we consider symmetric fulcrum performance fees distort the allocation of managed portfolios in a way that induces a significant and unambiguous positive effect on the prices of the assets included in the benchmark and a negative effect on the sharpe ratios asymmetric performance fees have more complex effects on equilibrium prices and sharpe ratios with the signs of these effects fluctuating stochastically over time in response to variations in the funds excess performance

averting a food crisis private imports and public targeted distribution in bangladesh after the 1998 flood abstract the 1998 flood in bangladesh caused a shortfall of 2 2 million tonnes mill t in the rice production and threatened the food security of tens of millions of households despite the best efforts of donors and the government the public distribution of rice and wheat was only 188 000 t more than originally planned for july 1998 to april 1999 however a major food crisis was averted as private imports made possible by trade liberalisation in the early 1990s stabilised market prices and supplies the government s direct distribution programs though small compared to private imports nonetheless increased access to food by poor households household survey data indicate that immediate relief efforts were well targeted to flood affected households as were transfers from ngos vulnerable group feeding vgf a medium term program was not targeted well to households directly exposed to the flood though the program was relatively well targeted to poor households more broadly the bangladesh experience with the 1998 flood shows that in a liberalised trade regime where private imports respond to price signals food aid s contribution to the total availability of food may be minimal however foreign assistance in kind or in cash can provide resources for subsidised targeted distribution to food insecure households assistance not possible otherwise under tight government budget constraints

dynamic asset allocation in a mean variance framework the aim of this article is to analyze the portfolio strategies that are mean variance efficient when continuous rebalancing is allowed between the current date 0 and the horizon t under very general assumptions when a zero coupon bond of maturity t exists the dynamic efficient frontier is a straight line the slope of which is explicitly characterized every dynamic mean variance efficient strategy can be viewed as buy and hold combinations of two funds the zero coupon bond of maturity t and a continuously rebalanced portfolio an appropriate dynamic strategy defining the latter is explicitly derived for two particular price processes and comparisons of the efficient frontiers static versus dynamic are provided in these cases

two trees with heterogeneous beliefs spillover effect of disagreement in a model where investors disagree about the fundamentals of two stocks the state price density depends on investor disagreements for both stocks especially the larger stock this implies that disagreement among investors in a large firm has a spillover effect on the pricing of other stocks owned by these investors the pricing effects of investor disagreements crucially depend on the average belief biases empirical findings support the novel model prediction of a disagreement spillover effect and help reconcile some mixed evidence in the literature

optimal consumption wealth relationships derived by consumer intertemporal profit maximisation abstract this paper proposes an artificial intertemporal consumer profit maximisation problem that is simple to solve the optimal consumption function which is consistent with intertemporal utility maximisation is then generated directly from a specification of the consumer s instantaneous profit function

dynamic asset allocation for stocks bonds and cash closed form solutions for hara optimal portfolios are obtained in a dynamic portfolio optimization model in three assets stocks bonds and cash in a vasicek type model of stochastic interest rates with correlated stock prices the hara is a buy and hold combination of a zero coupon bond with maturity matching the investor s horizon and a crra mutual fund this simple characterization facilitates insights about investor behavior over time and provides explanations on the rational use of convex versus concave investment strategies the model illuminates clearly the role of the different market parameters and relative risk aversion in portfolio strategies

equilibrium open interest abstract this paper analyses what determines an individual investor s risk sharing demand for options and aggregating across investors what the equilibrium demand for options we find that agents trade options to achieve their desired skewness specifically we find that portfolio holdings boil down to a three fund separation theorem that includes a so called skewness portfolio that agents like to attain our analysis indicates also however that the common risk sharing setup used for option demand and pricing is incompatible with a stylized fact about open interest across strikes

dynamic asset allocation portfolio decomposition formula and applications a new decomposition of the optimal portfolio in dynamic models with von neumann morgenstern preferences and ito prices is established the formula rests on a change of numeraire that uses pure discount bonds as units of account the dynamic hedging demand has two components the first hedge insures against fluctuations in an optimally designed bond with a maturity date matching the investor s horizon the second hedge immunizes against fluctuations in the market price of risk in the bond numeraire various applications are examined new results concerning the behavior of extremely risk averse individuals the demand for bonds and its long horizon limit and the optimal portfolio in incomplete markets are derived the author 2009 published by oxford university press on behalf of the society for financial studies all rights reserved for permissions please email journals permissions oxfordjournals org oxford university press

consumption and portfolio choice under internal multiplicative habit formation this paper explores the optimal consumption and investment behavior of an individual who derives utility from the ratio between his consumption and an endogenous habit we obtain closed form policies under general utility functionals and stochastic investment opportunities by developing a nontrivial linearization to the budget constraint this enables us to explicitly characterize how habit formation affects the marginal propensity to consume and optimal stock bond investments we also show that in a setting that combines habit formation with epstein zin utility consumption no longer grows at unrealistically high rates at high ages and investments in risky assets decrease

optimal hedging in a dynamic futures market with a nonnegativity constraint on wealth abstract this paper examines the issue of optimal hedging demands for futures contracts from an investor who cannot freely trade his portfolio of primitive assets in the context of lognormal rather than normal returns and of a constant absolute risk aversion utility function in this context the nonnegativity constraint on wealth is binding and the optimal hedging demands are not identical with those encountered in the bulk of the literature which has largely overlooked this problem negative results concerning the derivation of equilibrium in the futures markets and the computation of the open interests then follow

intertemporal asset allocation a comparison of methods abstract this paper compares two recent monte carlo methods advocated for the computation of optimal portfolio rules the candidate methods are the approach based on monte carlo with malliavin derivatives mcmd proposed by detemple garcia and rindisbacher detemple et al 2003 a monte carlo method for optimal portfolios journal of finance 58 401 406 and the approach based on monte carlo with regression mcr of brandt goyal santa clara and stroud brandt et al 2003 a simulation approach to dynamic portfolio choice with an application to learning about return predictability working paper wharton school our comparisons are carried out in the context of various intertemporal portfolio choice problems with two assets a risky asset and a riskless asset and different configurations of the state variables the specifications studied include a linear model with a single state variable admitting an exact solution and a non linear model with two state variables that requires a purely numerical resolution the accuracies of the candidate methods are compared we provide in particular efficiency plots displaying the speed accuracy trade off for various selections of the relevant simulation and discretization parameters mcmd is shown to dominate in all the settings considered

embedding corporate social responsibility in corporate governance a stakeholder systems approach current research on corporate social responsibility csr illustrates the growing sense of discord surrounding the business of doing good dobers and springett corp soc responsib environ manage 17 2 63 69 2010 central to these concerns is that csr risks becoming an over simplified and peripheral part of corporate strategy rather than transforming the dominant corporate discourse it is argued that csr and related concepts are limited to emancipatory rhetoric defined by narrow business interests and serve to curtail interests of external stakeholders banerjee crit sociol 34 1 52 2008 the paper addresses gaps in the literature and challenges current thinking on corporate governance and csr by offering a new conceptual framework that responds to the concerns of researchers and practitioners the limited focus of existing analyses is extended by a holistic approach to corporate governance and social responsibility that integrates company shareholder and wider stakeholder concerns a defensive stance is avoided by delineating key stages of the governance process and aligning profit centred and social responsibility concerns to produce a business based rationale for minimising risk and mainstreaming csr

on the optimality of path dependent structured funds the cost of standardization abstract this paper examines the suitability of an important class of standard financial structured products namely those whose performances are based on smoothing the return of a given risky underlying asset while providing a guarantee at maturity using various assumptions about the customers attitudes towards risk we show that such standardized products are not optimal even if the financial market volatility is constant as a by product we provide in particular the optimal portfolio value in the regret rejoice framework to go further with the notion of aversion of getting a return smaller than the risk free one using the notion of compensating variation we determine for the first time the monetary losses of providing these standardized products instead of the optimal ones to the customers we show that these monetary losses can be very significant when the volatility of the risky asset is stochastic from the operational point of view such results highly suggest to trade on the volatility index vix and or to introduce derivatives written on it when selling standardized funds in order to better meet investors needs and preferences

optimal contracts in a continuous time delegated portfolio management problem this article studies the contracting problem between an individual investor and a professional portfolio manager in a continuous time principal agent framework optimal contracts are obtained in closed form these contracts are of a symmetric form and suggest that a portfolio manager should receive a fixed fee a fraction of the total assets under management plus a bonus or a penalty depending upon the portfolio s excess return relative to a benchmark portfolio the appropriate benchmark portfolio is an active index that contains risky assets where the number of shares invested in each asset can vary over time rather than a passive index in which the number of shares invested in each asset remains constant over time fund managers compensation schemes in a delegated portfolio management setting have been of special interest to both academics and practitioners academic interest stems in part from the rapid growth of managed funds over the last two decades gompers and metrick 1998 report that by december 1996 mutual funds pension funds and other financial intermediaries held discretional control over more than half of the u s equity market it is thus of importance to study the impact of institutional trading on asset prices and to integrate into one model both asset pricing and delegated portfolio management compensation as advocated by brennan 1993 allen and santomero 1997 and allen 2001 it is also important to understand the relationship between a manager s trading strategies and his implicit incentives or career concerns see e g brown harlow and starks 1996 brown goetzmann and park 1997 chevalier and ellison 1999 and chen and pennacchi 2000 these concerns include internal promotion from a small to a large fund higher outside offers and the flow of money through the fund under management 1 the importance of fund manager compensation is also underscored by congressional passage in 1970 of the amendment to

financial sector in flux financial sector in flux is an understatement several years after the 2008 09 banking crisis we are still confronted with a weak financial sector and as i will argue a limited understanding of the functioning of the financial system and causes of financial instability we also seem very uncertain about the desired structure of the industry which complicates the design and implementation of effective remedies in europe problems seem even more acute the deadly embrace of weak governments and struggling domestic financial institutions endangers economic growth for many years to come my reading is that fundamental changes related to information technology and the proliferation of financial markets have created a financial landscape that is highly opportunistic transaction driven and prone to destabilizing herding behavior in particular information technology has deepened markets and created trading opportunities that allow for excessive changeability via transactions that undermine the stability of highly leveraged institutions such as banks such a transaction oriented landscape is subjected to the boom and bust nature of financial markets and hence is more opportunistic than the more stable longer term oriented relationship focus that existed before i will argue that this has created a very fluid financial landscape that is beyond the control of supervisors contains enormous systemic risk and hence is fundamentally unstable i will also argue that market forces market discipline in particular may well be ineffective in containing instability actually my point will be that market forces are often at the root of financial instability structural remedies via a fundamental redesign of the financial system might be needed to restore stability

a general equilibrium model of international portfolio choice we investigate in a two country general equilibrium model whether a bias in consumption towards domestic goods will necessarily lead to a preference for domestic securities we develop a model where investors are constrained to consume only from their domestic capital stock and where it is costly to transfer capital across countries in this model investors less risk averse than an investor with log utility bias their portfolios towards domestic assets investors more risk averse than log however prefer foreign assets thus this model suggests that it is unlikely that the portfolios observed empirically can be explained by the high proportion of domestic goods in total consumption we investigate in a two country general equilbrium model whether a bias in consumption toward domestic goods will necessarily lead to a preference for domestic assets in an investor s optimal portfolio we constrain investors to consume only from their domestic capital stock and introduce a proportional cost for transferring goods from one country this cost gives rise to endogenous deviations from the law of one price lop thus the home and foreign investors do not hold identical portfolios we show that an investor s optimal portfolio is biased towards domestic equity only if she is less risk averse than an investor with log utility investors with relative risk aversion greater than one exhibit a preference for the foreign asset this is because the exchange rate derived endogenously is negatively correlated with the return on the foreign asset and therefore the translated return on the foreign stock is less risky than that on the domestic stock thus the results of this model suggest that it is unlikely that the preference for domestic assets that is observed empirically can be explained by the high proportion of domestic goods in total consumption there exists a considerable body of literature documenting the gains from international diversification grubel 1968 was the first to propose that international diversification allows investors to attain lower return variances than those achievable by diversifying domestically this proposition relies on the correlation between stock indices across countries being significantly less

utilitarianism and fairness in portfolio positioning abstract the paper introduces the theory of optimal positioning of financial products it is illustrated in the context of long term intertemporal portfolio allocation and can be applied for example to asset allocation funds we embed this problem in location theory the portfolio is optimized within the investors risk aversion dimension for the crra utility functions we compute explicitly the distance functions for the first utilitarian criterion the average utility of the investors is maximized for the second one fairness criterion the choice of portfolio is optimized so that the average monetary loss due to the lack of customization is minimized given the distribution of investors risk aversion we provide a solution method and an algorithm to optimally position standardized portfolio along one of these two criteria

optimal investment with minimum performance constraints abstract we consider the portfolio problem of an investor whose wealth is constrained to be at least as large as that generated by investment in a stochastic benchmark portfolio using standard option pricing results the optimal portfolio policy of a hara utility investor is derived explicitly this policy is shown to be equivalent at any point in time to the investor s optimal unconstrained policy when he has contracted to paying out a proportion of the value of the benchmark portfolio at the terminal date this proportion which lies between zero and one is smaller the more likely it is that the investor will strictly outperform the benchmark over the investment horizon

the determinants of bank interest rate margins an international study abstract this paper studies the determinants of bank net interest margins nims in six selected european countries and the us during the period 1988 1995 for a sample of 614 banks we apply the ho and saunders model ho t saunders a 1981 the determinants of bank interest margins theory and empirical evidence journal of financial and quantitative analyses 16 581 600 to a multicountry setting and decompose bank margins into a regulatory component a market structure component and a risk premium component the regulatory components in the form of interest rate restrictions on deposits reserve requirements and capital to asset ratios have a significant impact on banks nims the empirical results suggest an important policy trade off between assuring bank solvency high capital to asset ratios and lowering the cost of financial services to consumers low nims the more segmented or restricted the banking system both geographically and by activity the larger appears to be the monopoly power of existing banks and the higher their spreads macro interest rate volatility was found to have a significant impact on bank nims this suggests that macro policies consistent with reduced interest rate volatility could have a positive effect in reducing bank margins

consumption and portfolio policies with incomplete markets and short sale constraints the infinite dimensional case abstract we employ a martingale approach to study a dynamic consumption portfolio problem in continuous time with incomplete markets and short sale constraints we introduce a notion of minimax local martingale and transform the dynamic problem into a static problem of maximizing expected utility over the consumption bundles that satisfy a single budget constraint formed using that measure we establish the existence of and characterize the minimax local measure provide sufficient conditions for the dynamic consumption portfolio problem to have a solution and relate the optimal policies to the solution of quasi linear partial differential equation

trade liberalization and national food security rice trade between bangladesh and india abstract following a poor harvest in late 1997 and a massive flood in 1998 private sector traders in bangladesh imported several million metric tons of rice from india this paper presents evidence that this trade made possible by separate trade liberalizations in india and bangladesh in the early 1990s augmented domestic supplies and stabilized prices in bangladesh at import parity levels letters of credit data indicating the participation of hundreds of importers and a close correlation of price movements across the two countries suggest that the trade was competitive a risk of co incident crop shortfalls in the two countries remains though these have occurred rarely in the past two decades bangladesh imports from alternative sources would also enhance food availability if another production shortfall occurs but these imports face higher transport costs and would involve far fewer importing firms given the economies of scale of shipments by sea the positive contribution of trade liberalization to short run food security in bangladesh in recent years does not minimize the importance of increased agricultural productivity and rural economic growth to provide rural poor households with sufficient incomes to acquire food nonetheless the bangladesh experience shows that trade liberalization offers potential benefits for national food security by enabling a rapid increase of food supplies following domestic production shortfalls

optimal investment with s shaped utility and trading and value at risk constraints an application to defined contribution pension plan abstract in this paper we investigate an optimal investment problem under loss aversion s shaped utility and with trading and value at risk var constraints faced by a defined contribution dc pension fund manager we apply the concavification and dual control method to solve the problem and derive the closed form representation of the optimal terminal wealth in terms of a controlled dual state variable we propose a simple and effective algorithm for computing the initial dual state value the lagrange multiplier and the optimal terminal wealth theoretical and numerical results show that the var constraint can significantly impact the distribution of the optimal terminal wealth and may greatly reduce the risk of losses in bad economic states due to loss aversion

does option compensation increase managerial risk appetite this paper solves the dynamic investment problem of a risk averse manager compensated with a call option on the assets he controls under the manager s optimal policy the option ends up either deep in or deep out of the money as the asset value goes to zero volatility goes to infinity however the option compensation does not strictly lead to greater risk seeking sometimes the manager s optimal volatility is less with the option than it would be if he were trading his own account furthermore giving the manager more options causes him to reduce volatility managers with convex compensation schemes play an important role in financial markets this paper solves for the optimal dynamic investment policy for a risk averse manager paid with a call option on the assets he controls the paper focuses on how the option compensation impacts the manager s appetite for risk when he cannot hedge the option position on one hand the convexity of the option makes the manager shun payoffs that are likely to be near the money under the optimal policy the manager either significantly outperforms his benchmark or else incurs severe losses furthermore in examples of optimal trading strategies asset volatility goes to infinity as asset value goes to zero yet option compensation does not strictly lead to greater risk seeking as asset value grows large or if the evaluation date is far away the manager moderates asset risk for example if the manager has constant relative risk aversion crra asset volatility converges to the merton constant as asset value goes to infinity in some situations the manager actually chooses a lower asset volatility than he would if he were investing on his own because the leverage inherent in his option magnifies his exposure to the asset volatility in addition with all constant or decreasing absolute risk averse utility functions from the hyperbolic absolute risk averse hara class giving the manager more options causes him to reduce asset volatility in the crra case for example the manager targets a fixed volatility for his personal

food aid domestic policy and food security contrasting experiences from south asia and sub saharan africa abstract food aid both for short term emergency relief and as program food aid that helps address medium term food deficits is often a major component of food security strategies in developing countries this study reviews the experience with food aid of four major recipients of food aid india bangladesh ethiopia and zambia regarding food production trade markets consumption and safety nets as well as the policy responses to food emergencies the widely varying experiences of the study countries suggest that food aid that supports building of production and market enhancing infrastructure is timed to avoid adverse price effects on producers and is targeted to food insecure households can play a positive role in enhancing food security however food aid is not the only or in many cases the most efficient means of addressing food insecurity in many cases private markets can more effectively address shortfalls in food availability and cash transfers may be a viable alternative to food transfers in kind

non addictive habits optimal consumption portfolio policies abstract we formulate a model of preferences with non addictive habits where consumption is required to be non negative at all times but can fall below a standard of living index that aggregates past consumption we study the consumption portfolio problem taking account of the non negativity constraint on consumption and provide a constructive proof for the existence of an optimal policy on a finite time horizon 0 t we show that the consumption constraint binds up to an endogenous stopping time 0 t after which it remains slack until t a decomposition of constrained consumption involving an asian average strike capped call option is demonstrated

market timing with option implied distributions a forward looking approach we address the empirical implementation of the static asset allocation problem by developing a forward looking approach that uses information from market option prices to this end we extract constant maturity s p 500 implied distributions and transform them to the corresponding risk adjusted ones then we form optimal portfolios consisting of a risky and a risk free asset and evaluate their out of sample performance we find that the use of risk adjusted implied distributions times the market and makes the investor better off than if she uses historical returns distributions to calculate her optimal strategy the results hold under a number of evaluation metrics and utility functions and carry through even when transaction costs are taken into account not surprisingly the reported market timing ability deteriorated during the recent subprime crisis an extension of the approach to a dynamic asset allocation setting is also presented this paper was accepted by wei xiong finance