A two-parameter model of dispersion aversion

Robert G. Chambers, Simon Grant, Ben Polak and John Quiggin

Journal of Economic Theory, 2014, vol. 150, issue C, 611-641

Abstract: The idea of representing choice under uncertainty as a trade-off between mean returns and some measure of risk or uncertainty is fundamental to the analysis of investment decisions. In this paper, we show that preferences can be characterized in this way, even in the absence of objective probabilities. We develop a model of uncertainty averse preferences that is based on a mean and a measure of the dispersion of the state-wise utility of an act. The dispersion measure exhibits positive linear homogeneity, sub-additivity, translation invariance and complementary symmetry. Since preferences are only weakly separable in terms of these two summary statistics, the uncertainty premium need not be constant. We generalize the concept of decreasing absolute risk aversion. Further we derive two-fund separation and asset pricing results analogous to those that hold for the standard CAPM.

Keywords: Uncertainty aversion; Mean utility; Dispersion of utility; Weak-separability; Two-fund separation; CAPM excess return formula (search for similar items in EconPapers)
JEL-codes: D81 G11 G12 (search for similar items in EconPapers)
Date: 2014
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (8)

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Related works:
Working Paper: A Two-Parameter Model of Dispersion Aversion (2011)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:jetheo:v:150:y:2014:i:c:p:611-641

DOI: 10.1016/j.jet.2013.08.004

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