Portfolio Diversification and Complementarity in Asset Demand Systems

Ozan E. Akbas and Ao Wang
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Ozan E. Akbas: Warwick Business School, University of Warwick
Ao Wang: Department of Economics, University of Warwick and CAGE Research Centre

The Warwick Economics Research Paper Series (TWERPS) from University of Warwick, Department of Economics

Abstract: Investors evaluate their entire portfolio, not individual assets, striving to balance returns and risks through effective diversification. This paper introduces a flexible demand system accommodating heterogeneous substitution, cross-asset complementarities, and diverse investment strategies. By relaxing multinomial logit assumptions, our model better captures portfolio allocation decisions, linking portfolio weights to both individual asset and portfolio-wide characteristics. We propose a demandinverse approach for the identification of structural parameters. This approach implies a Generalized Method of Moments estimation procedure with novel instruments addressing cross-asset dependencies. Monte Carlo simulations validate the model, demonstrating improved finite-sample properties over standard multinomial logit frameworks. JEL Codes: C51 ; G11 ; G23

Keywords: asset demand systems; flexible substitution; cross-asset complementarity (search for similar items in EconPapers)
Date: 2024
New Economics Papers: this item is included in nep-dcm
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Persistent link: https://EconPapers.repec.org/RePEc:wrk:warwec:1533

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