Individual decisions under risk, risk sharing and asset prices with regret
نویسنده
چکیده
We consider an Arrow-Debreu economy in which expected-utility-maximizing agents are sensitive to regret. According to regret theory, the marginal utility of their consumption is increasing in the maximum payoff that they could have obtained if they would have made another choice ex ante. We show that regret biases the optimal portfolio allocation towards assets that perform particularly well in low probability states. The competitive asset pricing kernel is convexified by regret if the distribution of the macroeconomic risk is logconcave. Regret also reduces the equity premium when the macro risk is positively skewed. We characterize the competitive allocation of risk when consumers have heterogenous preferences, and we show how to aggregate individual intensities of regret.
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