Standard Risk Aversion and the Demand for Risky Assets in the Presence of Background Risk

Günter Franke, Richard C. Stapleton and Marti G. Subrahmanyam

No 00/36, CoFE Discussion Papers from University of Konstanz, Center of Finance and Econometrics (CoFE)

Abstract: We consider the demand for state contingent claims in the presence of a zero-mean, nonhedgeable background risk. An agent is defined to be generalized risk averse if he/she reacts to an increase in background risk by choosing a demand function for contingent claims with a smaller slope. We show that the conditions for standard risk aversion: positive, declining absolute risk aversion and prudence are necessary and sufficient for generalized risk aversion. We also derive anecessary and suÆcient condition for the agent's derived risk aversion to increase with a simple increase in background risk.

Date: 2000
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Persistent link: https://EconPapers.repec.org/RePEc:zbw:cofedp:0036

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