Investors Facing Risk: Prospect Theory and Non-Expected Utility in Portfolio Selection

Erick Rengifo, Emanuela Trifan and Rossen Trendafilov
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Erick Rengifo: Fordham University
Emanuela Trifan: Bayerngas Energy
Rossen Trendafilov: Truman State University

Fordham Economics Discussion Paper Series from Fordham University, Department of Economics

Abstract: This paper focuses on the attitude of non-professional investors towards financial losses and their decisions on wealth allocation, and how these change subject to behavioral factors. Our contribution concerns the integration of behavioral elements into the classic portfolio optimization. Individual perceptions are modeled according to an extended prospect-theory framework: Losses loom larger than gains of the same size (loss aversion) and the past riskyportfolio performance changes the subjective valuation of risky investments. The utility of financial investments is overemphasized (myopia). The portfolio model with individual VaR delivers an optimal wealth assignment between risky and risk-free assets.

Keywords: VaR; Non-Professional Investor; Prospect Theory; Non-Expected Utility. (search for similar items in EconPapers)
JEL-codes: D81 E27 G10 G11 (search for similar items in EconPapers)
Date: 2014
New Economics Papers: this item is included in nep-upt
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Persistent link: https://EconPapers.repec.org/RePEc:frd:wpaper:dp2014-03

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