Realization Utility with Reference-Dependent Preferences

Jonathan E. Ingersoll and Lawrence Jin

The Review of Financial Studies, 2013, vol. 26, issue 3, 723-767

Abstract: We develop a tractable model of realization utility that studies the role of reference-dependent S-shaped preferences in a dynamic investment setting with reinvestment. Our model generates both voluntarily realized gains and losses. It makes specific predictions about the volume of gains and losses, the holding periods, and the sizes of both realized and paper gains and losses that can be calibrated to a variety of statistics, including Odean's measure of the disposition effect. Our model also predicts several anomalies, including, among others, the flattening of the capital market line and a negative price for idiosyncratic risk. The Author 2012. Published by Oxford University Press on behalf of The Society for Financial Studies. All rights reserved. For Permissions, please e-mail: journals.permissions@oup.com., Oxford University Press.

Date: 2013
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