Behavioral Finance for Private Banking – From the Art of Advice to the Science of Advice : [PDF Download]

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“According to time diversification, the attractiveness of a risky investment increases with the length of the investment horizon. If one can wait longer, good times would compensate for bad times. But should long-term investors hold more risky assets than short-term investors?

The famous no time diversification theorem” (Merton, 1969; Samuelson, 1969) says that under certain conditions, the optimal asset allocation does not depend on the investment horizon. The conditions refer to the investors’ preferences and the predictability of asset returns.

The optimal asset allocation does not depend on the investment horizon if the investors maximize their final expected wealth while having a constant relative risk aversion (CRRA) and the investment returns are unpredictable.

What if the first assumption does not hold and the investor is the typical prospect theory investor? Example 8.1 deals with this possibility.”

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