Optimal Portfolio Choice Under Heterogeneous Beliefs

Posted: 3 May 2001

See all articles by Alexandre Ziegler

Alexandre Ziegler

University of Zurich - Department of Banking and Finance

Abstract

This paper analyzes how an investor who is convinced that he can "beat the market" should behave when the equilibrium price process is endogenous. The investor's optimal portfolio is shown to consist of three components: (1) a tangency portfolio, (2) a hedge portfolio against changes in the market's valuation of securities, and (3) a hedging position against changes in the divergence between the investor's and the market's beliefs. The sign and magnitude of this third component will depend on investor preferences and on the divergence in the investor's and the market's quality of information. A numerical example illustrates that the effect of heterogeneous beliefs on optimal portfolio allocations can be significant.

Keywords: Hedging, heterogeneous beliefs, portfolio choice

Suggested Citation

Ziegler, Alexandre, Optimal Portfolio Choice Under Heterogeneous Beliefs. Available at SSRN: https://ssrn.com/abstract=264296

Alexandre Ziegler (Contact Author)

University of Zurich - Department of Banking and Finance ( email )

Plattenstrasse 14
Z├╝rich, 8032
Switzerland

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