How does a change in downside risk affect optimal demand for a risky asset?: Comparative statics on Tail Conditional Expectation

Kazuki Nakamura

Finance Research Letters, 2023, vol. 58, issue PD

Abstract: This paper explains how changes in the return distribution of a risky asset, which alters Tail Conditional Expectation (TCE), impact the agent’s portfolio selection. We establish sufficient conditions for distribution changes, leading to a TCE reduction, to increase optimal demand for the risky asset. These results imply that risk-averse agents may increase their optimal demand for the risky asset when the downside risk premium increases. Furthermore, evaluating TCE, or downside risk premium, is compatible with second-degree stochastic dominance. This suggests that such an order of downside risk measures can provide additional insight into an agent’s portfolio selection, as identified by the stochastic dominance criteria.

Keywords: Portfolio theory; Tail conditional expectation; Value at risk; Stochastic dominance (search for similar items in EconPapers)
JEL-codes: D81 G11 (search for similar items in EconPapers)
Date: 2023
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Persistent link: https://EconPapers.repec.org/RePEc:eee:finlet:v:58:y:2023:i:pd:s1544612323010401

DOI: 10.1016/j.frl.2023.104668

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