Optimal annuitization and asset allocation under linear habit formation

Guohui Guan, Zongxia Liang and Xingjian Ma

Insurance: Mathematics and Economics, 2024, vol. 114, issue C, 176-191

Abstract: This paper studies the optimal consumption-investment-annuitization problem for a retiree with linear consumption habits. We explore the effect of consumption habits on the decision to annuitize when annuities are purchased as a lump sum. The problem is formulated as a combined stopping-control problem. We derive optimal annuitization time, investment, and consumption strategies by a generalized dual method and habit reduction method. We investigate the influence of various factors on the annuitization time and derive optimal annuitization time, which is a barrier strategy. The numerical simulations reveal several interesting results. Our results demonstrate that risk aversion, subjective hazard rate, and consumption habits all play a role in shaping annuitization decisions. Furthermore, we offer a new explanation for the rarity of voluntary annuitization among retirees.

Keywords: Linear habit formation; Stopping-control problem; Annuitization; Dual methods; Variational inequalities (search for similar items in EconPapers)
JEL-codes: C61 G11 G22 (search for similar items in EconPapers)
Date: 2024
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Persistent link: https://EconPapers.repec.org/RePEc:eee:insuma:v:114:y:2024:i:c:p:176-191

DOI: 10.1016/j.insmatheco.2023.11.007

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