Essays on portfolio choice over the life-cycle

This thesis studies how consumers should allocate their savings among different assets over the life-cycle. In the first chapter we consider a model in which investors are endowed with a stream of risky labor income, against which they cannot borrow. In each period they choose how much to consume, and how to allocate their savings among risky financial assets, such as stocks, and relatively safe financial assets, such as T-bills. We find that the share of savings invested in stocks decreases over life, consistent with the advice given by popular finance books and financial counselors. In the second chapter we augment this model to explore the welfare implications of alternative retirement savings systems. If households portfolios are constrained by borrowing and short-sales restrictions, or by fixed costs of participating in risky asset markets, then alternative retirement systems may affect household welfare by relaxing these constraints. In a benchmark case, we find ex-ante welfare gains equivalent to a 3.7 percent increase in consumption from the investment of half of retirement wealth in the equity market. We also find that realistic heterogeneity of risk aversion and labor income risk can strongly affect optimal portfolio choice over the life cycle, which provides one argument for a privatized Social Security system with an element of personal portfolio choice.; In the third chapter we augment the model in the first chapter to allow for saving in illiquid durable consumption goods, such as houses. The presence of these real assets have important implications for the patterns of wealth accumulation, and for portfolio allocation among financial assets. Young households accumulate housing wealth while financial assets are kept at low levels. Late in life housing shifts portfolio composition towards risky financial assets.; The final chapter considers the effects of risk in the price house. Consumers may either rent or buy the house. In the presence of the risk in the price of the house, homeownership is associated with large fluctuations in the value of wealth, but in addition serves as a hedge against fluctuations in the implicit cost of consumption. We use the model to assess the importance of the risk and hedging dimensions of durable good ownership, at different horizons, and for different degrees of risk and risk aversion.