Optimal consumption and investment with transaction costs and multiple risky assets

Optimal consumption and investment with transaction costs and multiple risky assets

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Article ID: iaor20042474
Country: United Kingdom
Volume: 59
Issue: 1
Start Page Number: 289
End Page Number: 338
Publication Date: Jan 2004
Journal: Journal of Finance
Authors:
Keywords: risk
Abstract:

We consider the optimal intertemporal consumption and investment policy of a constant absolute risk aversion investor who faces fixed and proportional transaction costs when trading multiple risky assets. We show that when asset returns are uncorrelated, the optimal investment policy is to keep the dollar amount invested in each risky asset between two constant levels and upon reaching either of these thresholds, to trade to the corresponding optimal targets. An extensive analysis suggests that transaction cost is an important factor in affecting trading volume and that it can significantly diminish the importance of stock return predictability as reported in the literature.

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