Rational inattention and portfolio selection

Rational inattention and portfolio selection

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Article ID: iaor2009773
Country: United Kingdom
Volume: 62
Issue: 4
Start Page Number: 1999
End Page Number: 2040
Publication Date: Aug 2007
Journal: Journal of Finance
Authors: ,
Keywords: optimization
Abstract:

Costly information acquisition makes it rational for investors to obtain important economic news with only limited frequency or limited accuracy. We show that this rational inattention to important news may make investors over- or underinvest. In addition, the optimal trading strategy is ‘myopic’ with respect to future news frequency and accuracy. We find that the optimal news frequency is nonmonotonic in news accuracy and investment horizon. Furthermore, when both news frequency and news accuracy are endogenized, an investor with a higher risk aversion or a longer investment horizon chooses less frequent but more accurate periodic news updates.

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