Effects of Background Risks on Cautiousness with an Application to a Portfolio Choice Problem
27 Pages Posted: 17 Jun 2008
Date Written: June 5, 2008
We provide necessary and sufficient conditions on an individual's expected utility function under which any zero-mean idiosyncratic risk increases cautiousness (the derivative of the reciprocal of the absolute risk aversion), which is the key determinant for this individual's demand for options and portfolio insurance.
Keywords: Risk aversion, risk tolerance, cautiousness, portfolio insurance, idiosyncratic risks, background risks, incomplete markets
JEL Classification: D51, D58, D81, G11, G12, G13
Suggested Citation: Suggested Citation