Do wealth fluctuations generate time-varying risk aversion? Micro-evidence on individuals' asset allocation

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Abstract

We use data from the Panel Study of Income Dynamics to investigate how households' portfolio allocations change in response to wealth fluctuations. Persistent habits, consumption commitments, and subsistence levels can generate time-varying risk aversion with the consequence that when the level of liquid wealth changes, the proportion a household invests in risky assets should also change in the same direction. In contrast, our analysis shows that the share of liquid assets that households invest in risky assets is not affected by wealth changes. Instead, one of the major drivers of household portfolio allocation seems to be inertia: households rebalance only very slowly following inflows and outflows or capital gains and losses.

Original languageEnglish (US)
Pages (from-to)713-736
Number of pages24
JournalAmerican Economic Review
Volume98
Issue number3
DOIs
StatePublished - 2008

All Science Journal Classification (ASJC) codes

  • Economics and Econometrics

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