Nonmyopic Optimal Portfolios in Viable Markets

Jaksa Cvitanic () and Semyon Malamud

No 10-42, Swiss Finance Institute Research Paper Series from Swiss Finance Institute

Abstract: We provide a representation for the nonmyopic optimal portfolio of an agent consuming only at the terminal horizon when the single state variable follows a general diffusion process and the market consists of one risky asset and a risk-free asset. The key term of our representation is a new object that we call the "rate of macroeconomic flctuation" whose properties are fundamental for the portfolio dynamics. We show that, under natural cyclicality conditions, (i) the agent's hedging demand is positive (negative) when the product of his prudence and risk tolerance is below (above) 2 and (ii) the portfolio weights decrease in risk aversion. We apply our results to study a general continuous-time capital asset pricing model and show that under the same cyclicality conditions, the market price of risk is countercyclical and the price of the risky asset exhibits excess volatility.

Keywords: heterogeneous agents; nonmyopic optimal portfolios; hedging demand; equilibrium (search for similar items in EconPapers)
JEL-codes: D53 G11 G12 (search for similar items in EconPapers)
Pages: 55 pages
Date: 2010-10
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Persistent link: https://EconPapers.repec.org/RePEc:chf:rpseri:rp1042

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