Article2007

Rational Inattention and Portfolio Selection

160 citations0/0 files storedThe Journal of Finance

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Financial Markets and Investment Strategies Stochastic processes and financial applications Risk and Portfolio Optimization

Abstract

ABSTRACT Costly information acquisition makes it rational for investors to obtain important economic news with only limited frequency or limited accuracy. We show that this rational inattention to important news may make investors over‐ or underinvest. In addition, the optimal trading strategy is “myopic” with respect to future news frequency and accuracy. We find that the optimal news frequency is nonmonotonic in news accuracy and investment horizon. Furthermore, when both news frequency and news accuracy are endogenized, an investor with a higher risk aversion or a longer investment horizon chooses less frequent but more accurate periodic news updates.

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References

1971Optimum consumption and portfolio rules in a continuous-time model 2012The Econometrics of Financial Markets 1997The Econometrics of Financial Markets 1989Business conditions and expected returns on stocks and bonds 2003Implications of rational inattention 1988Dividend yields and expected stock returns 2000Transform Analysis and Asset Pricing for Affine Jump-diffusions 1998Numerical Methods in Economics

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