Optimal Consumption and Portfolio Rules with Durability and Local Substitution

Ayman Hindy and Chi-fu Huang

Econometrica, 1993, vol. 61, issue 1, 85-121

Abstract: A model of optimal consumption and portfolio choice that captures the notions of local substitution and irreversible purchases of durable goods is studied. Necessary and sufficient conditions for a consumption and portfolio policy to be optimal are provided. A closed-form solution of the optimal consumption and portfolio policy is given. The optimal consumption policy consists of a possible initial "gulp" of consumption, or a period of no consumption, followed.by a process of accumulated consumption with singular sample paths. The equilibrium risk premium in a representative investor economy with a single physical production technology is computed. Copyright 1993 by The Econometric Society.

Date: 1993
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