Brown Bag Seminar - Gualtiero Azzalini (SHoF/SSE), Heterogeneous cyclical income risk and the cross-section of life-cycle portfolio choices
Welcome to an academic seminar hosted by the Swedish House of Finance and the Department of Finance.
Paper
Heterogeneous cyclical income risk and the cross-section of life-cycle portfolio choices
Abstract
A prominent explanation for low risk-taking among young and wealth-poor households is cyclical income risk: when labor income shocks are positively correlated with stock market returns, human capital becomes risky, crowding out financial risk-taking. However, existing models typically assume homogeneous exposure to aggregate risk, which generates a relationship between income and the risky share that contradicts the data. I reconcile this anomaly by estimating an income process that allows cyclical income risk to vary across agents with different income profiles and show that, when embedded in a life-cycle portfolio choice model, this feature helps rationalizing the observed distribution of individual portfolios. My findings suggest that personalized portfolio and saving advice should be tailored to an individual's specific exposure to aggregate income risk.