by Claudio Campanale (University of Alicante)
The empirical evidence shows two notable features of household financial portfolios: the allocation to stocks for equity market participants is approximately constant in both age and wealth. The standard life-cycle model with uninsurable idiosyncratic earnings instead predicts conditional stock shares that are declining in wealth and age, the latter especially early in life. In the present paper I develop a life-cycle portfolio choice model where stock returns are assumed to be ambiguous and agents are ambiguity averse.
As in Epstein and Schneider (2005) part of the ambiguity vanishes over time as a consequence of learning over observed returns.
When calibrated to match average participation rates and conditional portfolio shares the model is able to generate patterns of stock allocations across age and wealth groups that are roughly constant as in the data.