Consumption and Portfolio Choice Under Internal Multiplicative Habit Formation
Author | : Servaas van Bilsen |
Publisher | : |
Total Pages | : 51 |
Release | : 2018 |
ISBN-10 | : OCLC:1304433963 |
ISBN-13 | : |
Rating | : 4/5 (63 Downloads) |
Book excerpt: This paper explores the optimal consumption and investment behavior of an individual who derives utility from the ratio between his consumption and an endogenous habit. We obtain closed-form policies under general utility functionals and stochastic investment opportunities, by developing a non-trivial linearization to the budget constraint. This enables us to explicitly characterize how habit formation a ffects the marginal propensity to consume and optimal stock-bond investments. We also show that in a setting which combines habit formation with Epstein-Zin utility, consumption no longer grows at unrealistically high rates at high ages and investments in risky assets decrease.