Time diversification: Definitions and some closed-form solutions

Kee H. Chung, William T. Smith and Tao L. Wu

Journal of Banking & Finance, 2009, vol. 33, issue 6, pages 1101-1111

Abstract: We establish general conditions under which younger investors should invest a larger proportion of their wealth in risky assets than older ones. In the finite horizon dynamic setting, we show that such phenomenon, known as [`][`]time diversification," can occur in the presence of human wealth, guaranteed consumption, or mean-reverting stock returns. We formalize two alternative notions of time diversification commonly confounded in the literature. Analytic solutions are provided for both time-series and cross-sectional forms of time diversification. To our best knowledge, this paper is the first to solve in closed-form the hedging demand for a CARA investor with inter-temporal consumption and a finite horizon, facing mean-reverting expected returns. Our results indicate that horizon can have a significant effect on the portfolio demand of a CARA investor due to inter-temporal hedging.

Keywords: Portfolio; choice; Asset; allocation; Time-series; time; diversification; Cross-sectional; time; diversification (search for similar items in EconPapers)
Date: 2009

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Persistent link: http://EconPapers.repec.org/RePEc:eee:jbfina:v:33:y:2009:i:6:p:1101-1111

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