Title: Portfolio choice under uncertainty
Authors: Isabella Blengini - Ecole hoteliere de Lausanne (EHL) (Switzerland) [presenting]
Alessia Paccagnini - University College Dublin (Ireland)
Abstract: The factors that affect agents' portfolio choices when there is an increase in world uncertainty are analyzed. We solve a DSGE model with uncertainty using the method developed previously. Thanks to our macroeconomic setting, we can endogenously determine asset returns and clarify their relationship with the macroeconomic fundamentals. In our two-country DSGE model we assume that there is trade in both goods and financial assets. The international asset portfolio includes two types of securities: stocks and bonds. Each country issues one government bond and one equity, denominated in local goods. There are three sources of shocks: one preference shock that is common to the two economies, two endowment shocks and two government spending shocks. We proxy the increase in uncertainty with the introduction of uncertainty shocks, i.e., we allow the variances of the shocks to be time-varying. Investors choose their portfolio with one main goal in mind: They want to smooth their consumption. When the uncertainty shocks hit, the way in which real variables co-vary with asset returns changes. As a consequence, agents need to re-adjust their portfolios until when the shock disappears. That is why we observe portfolio dynamics. Our main findings suggest that the response of the portfolio to an increase in uncertainty crucially depends on the source of uncertainty.