Robustness meets co-jumps: optimal consumption and portfolio choice with derivatives

In this paper, we study a robust, dynamic, continuous-time optimal consumption and portfolio allocation problem for investors with recursive preferences who have access to both stock and derivatives markets. We assume the stock price process follows a stochastic volatility model, with instantaneous precision as the unique state variable, allowing for discontinuities in all the dynamics. We obtain a closed-form approximate solution up to a system of ODEs to the optimization problem for a non-unitary value of the elasticity of intertemporal substitution of consumption, being able to derive an exact solution as a particular case. Our theoretical findings show that the optimal policies are remarkably affected by the ambiguity-aversion parameters to diffusive and jump risks. A detailed numerical analysis confirms the effectiveness of our theoretical results on real data. Finally, we prove that investors who do not believe in ambiguity may suffer considerable wealth losses.

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Publication Details

Journal
Quantitative Finance
Published
2024-11-04
DOI
https://doi.org/10.1080/14697688.2024.2410862
Primary Topic
Stochastic processes and financial applications
Type
article
Field-Weighted Citation Impact
0.00

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article

Robustness meets co-jumps: optimal consumption and portfolio choice with derivatives

Immacolata Oliva, Ilaria Stefani
Quantitative Finance
Stochastic processes and financial applications
article

Robustness meets co-jumps: optimal consumption and portfolio choice with derivatives

Immacolata Oliva, Ilaria Stefani
article en

Abstract

In this paper, we study a robust, dynamic, continuous-time optimal consumption and portfolio allocation problem for investors with recursive preferences who have access to both stock and derivatives markets. We assume the stock price process follows a stochastic volatility model, with instantaneous precision as the unique state variable, allowing for discontinuities in all the dynamics. We obtain a closed-form approximate solution up to a system of ODEs to the optimization problem for a non-unitary value of the elasticity of intertemporal substitution of consumption, being able to derive an exact solution as a particular case. Our theoretical findings show that the optimal policies are remarkably affected by the ambiguity-aversion parameters to diffusive and jump risks. A detailed numerical analysis confirms the effectiveness of our theoretical results on real data. Finally, we prove that investors who do not believe in ambiguity may suffer considerable wealth losses.

Quantitative FinanceVol. 24(12)
Sapienza University of Rome (IT)
Sapienza Università di Roma
Openalex Percentile: Top 74%
Stochastic processes and financial applications
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Robustness meets co-jumps: optimal consumption and portfolio choice with derivatives — Immacolata Oliva, Ilaria Stefani · Quantitative Finance (2024) | TGRS Research Map | TGRS