Cautious stochastic choice, optimal stopping and deliberate randomization

Vicky Henderson (), David Hobson () and Matthew Zeng ()
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Vicky Henderson: University of Warwick
David Hobson: University of Warwick
Matthew Zeng: University of Warwick

Economic Theory, 2023, vol. 75, issue 3, No 9, 887-922

Abstract: Abstract We study cautious stochastic choice (CSC) agents facing optimal timing decisions in a dynamic setting. In an expected utility setting, the optimal strategy is always a threshold strategy—to stop/sell the first time the price process exits an interval. In contrast, we show that in the CSC setting, where the agent has a family of utility functions and is concerned with the worst case certainty equivalent, the optimal strategy may be of non-threshold form and may involve randomization. We provide some carefully constructed examples, including one where we can solve explicitly for the optimal stopping rule and show it is a non-trivial mixture of threshold strategies. Our model is consistent with recent experimental evidence in dynamic setups whereby individuals do not play cut-off or threshold strategies.

Keywords: Stochastic choice; Cautious stochastic choice; Randomization; Optimal stopping (search for similar items in EconPapers)
JEL-codes: D81 G19 G39 (search for similar items in EconPapers)
Date: 2023
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Citations: View citations in EconPapers (1)

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DOI: 10.1007/s00199-022-01428-2

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