The Optimal Asset Allocation Based On Life-cycle Investment Theory

Life-Cycle hypothesis was bring forth in 1963 by Modigliani. After years of development, life-cycle investment theory has become the important connection between modern portfolio theory and pension funds investment, and life-cycle investment products has also become an important bridge linking the pension funds and capital markets. As the the aging of U.S. population increasing and pension plan changing from DB plan to DC plan in 1990s, life-cycle funds emerged and developed quickly, assets under management in U.S. reached $ 205 billion at the first half of 2008. In china, although the rapid growth of the pension scale and financial products emerging, but social security assets like annuity and personal pension account have a lot restrictions on investment, available products are also lagging behind, especially the heterogeneous characteristics of pension beneficiaries has not been reflected. There have only three life-cycle funds in China capital market, it has considerable room for development.This paper studies the optimal asset allocation for the life-cycle funds investors, and the optimal stochastic dynamic asset allocation path problem of life-cycle model, analyses the advantages of life-cycle investment for the pension investors with different risk characteristics, age, income levels. Both theoretical and practical perspectives of the life-cycle investment theory are applied to discuss the feasibility and effective way of pension investment. The main contents are as follows: Firstly, we describe the general principles of asset allocation theory, and introduce the development of life-cycle investment theory, analyze the basic theory of life-cycle model and human capital .Secondly, we discuss the prerequisites and key assumptions of life-cycle model, and the primary method scalarzing the model—finite difference method to meet the investor's life-cycle utility maximization under dynamic optimization selection between consumption and investment during lifetime.Then, we determine the values of each parameter, and program with MATLAB. After that we get the conclusions under the standard situation and expand the assumptions like labor income growth and bequest to get corresponding results.After that, we apply these results to actual situation, discuss asset allocation of life-cycle funds. Then we study that how life-cycle funds to become the integration point of the capital market and pension market, and to get more development.With the rapid arrival of an aging society in our country, there will have a huge gap in pension payments and short-term needs for social security, deepening the reform of pension management and investment is on the trend. In this paper, both theoretical and practical perspective of life-cycle investment theory is applied to discuss the feasibility and effective way for pension funds and its investment and management reform.