Financial risk taking in the presence of correlated non-financial background risk

W. Henry Chiu

Journal of Mathematical Economics, 2020, vol. 88, issue C, 167-179

Abstract: This paper characterizes the stochastic deterioration resulting from taking a zero-mean financial risk in the presence of correlated non-financial background risk. We show in particular that it has an equivalent stochastic order as well as a necessary and sufficient “integral condition” that implies and is implied by a particular sense in which the stochastic deterioration can be decomposed into a “correlation increase” and a “marginal risk increase”. We further characterize a measure of aversion to the stochastic deterioration. These characterizations provide for a more general framework for formulating concepts of increases in risk and correlation and for better understanding risk management decisions governed by individuals’ attitudes to them.

Keywords: Non-financial background risk; Expectation dependence; Portfolio choice; Correlation aversion; Correlated risks; Marginal risk increase (search for similar items in EconPapers)
Date: 2020
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Citations: View citations in EconPapers (3)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:mateco:v:88:y:2020:i:c:p:167-179

DOI: 10.1016/j.jmateco.2020.03.004

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