Optimal consumption-portfolio rules with biased beliefs

Shehong Hou, Yingjie Niu and Jinqiang Yang

Economics Letters, 2018, vol. 173, issue C, 152-157

Abstract: We extend the model of optimal consumption and asset allocation by incorporating the biased agent beliefs—overconfidence and overextrapolation. It predicts that overconfidence entails overconsumption, lower overconfidence-induced hedging demand and overinvestment in the risky assets, while overextrapolation induces underconsumption, higher overextrapolation-induced hedging demand and underinvestment. Our model provides an alternative explanation for an agent’s mis-consumption/hedging and portfolio misallocation from the perspective of biased beliefs.

Keywords: Biased beliefs; Overconfidence; Overextrapolation; Consumption; Asset allocation (search for similar items in EconPapers)
JEL-codes: D8 E2 G1 (search for similar items in EconPapers)
Date: 2018
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:ecolet:v:173:y:2018:i:c:p:152-157

DOI: 10.1016/j.econlet.2018.10.003

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