Disclosures, Standard setting process, Welfare effects of disclosure, Users of disclosures

Price-level accounting, Price levels, Utility function

I'd like to begin by thanking the Western Finance Association for the lunch I just consumed …It is only fair that I inform you at the outset that the views you are about to hear can only be described as biased. They are biased because I'll be limiting my remarks to those parts of finance that I think I know something about; secondly, my comments will contain a disproportionate reflection of my own work. The more generous among you might argue that this puts me in good company. A better explanation would recognize that I am really in a monopoly position for the next half hour or so: there are no contemporaneous sessions within commuting distance, your lunch was paid in advance and is not refundable, and for some of you at least there is a certain cost associated with getting up and leaving in full view of the organizers.

Despite the enormous attention received by the single-period mean-variance model in the literature, its structural relationship to the empirical world is still largely unexplored. The purpose of this note is to show that when certain consistency requirements and equilibrium conditions in the financial markets are taken into account, the collective judgment of the present literature concerning the mean-variance approach is in some respects too lenient and in other respects too harsh. In addition, it will be noted that the mean-variance model can only achieve consistency with the von Neumann-Morgenstern postulates and absolute preference (also known as first-order stochastic dominance) at the price of a severe upper bound on the risk aversion that can be possessed by the decision maker.

Three main approaches to the problem of portfolio selection may be discerned in the literature. The first of these is the mean-variance approach, pioneered by Markowitz [21], [22], and Tobin [30]. The second approach is that of chance-constrained programming, apparently initiated by Naslund and Whinston [26]. The third approach, Latané [19] and Breiman [6], [7], has its origin in capital growth considerations. The purpose of this paper is to contrast the mean-variance model, by far the most well-known and most developed model of portfolio selection, with the capital growth model, undoubtedly the least known. In so doing, we shall find the mean-variance model to be severely compromised by the capital growth model in several significant respects.

In two previous articles [11] and [12] a family of normative models of the individual's economic decision problem under risk was presented. At the same time, certain implications of these models with respect to individual behavior were deduced for a class of utility functions. This paper will show that these models also give rise to an induced theory of the formation and operation of firms under risk for the same class of utility functions.

Consider an economy consisting of individuals and firms with the following characteristics: all individuals are rational in the von Neumann- Morgenstern sense and non-neutral toward risk; the dividend streams of some firms are certain, while the dividend streams of the other firms are uncertain; and the economy is equipped with perfect financial markets. In this economy, as we show in the present paper, the value of each firm with a certain dividend stream depends only on the dividend stream itself and the set of future interest rates—i.e., the market value of such firms is independent of the attitudes toward risk and the level of wealth of any individual. However, the value of each firm with an uncertain dividend is, with one exception, not independent of anything: it depends not only on the firm's own dividend stream, the set of future interest rates, and (all) individuals' risk attitudes, but also on the wealth levels of these individuals and on the dividend streams of all other firms with uncertain dividends even when these streams are stochastically independent. The exception occurs when the individuals have exponential utility functions of money. In this case, the market value of each firm with uncertain dividends is independent of other dividend streams and of individual wealth levels if these variables are statistically independent of the firm's dividends. Exponential utility functions of money, of course, are not considered empirically plausible.

This article examines some aspects of the portfolio selection problem when the “no-easy-money-condition” holds and the investor is constrained to stay solvent. The possible presence of a non-capital income is also taken into consideration.

This paper considers the problem of the investor who has numerous opportunities for revising his portfolio and whose choices are governed by a utility function defined on ‘terminal’ wealth, U0(x0). Attention is focussed on the behavior of the induced utility functions of intermediate wealth with n periods to go, Un(xn), and the associated investment policies. Conditions under which the functions Un(xn) will tend to isoelasticity have previously been given by Mossin and by Leland. In this paper, the conditions for convergence are weakened further, to the point where they appear sufficiently broad to encompass perhaps most utility functions of practical interest.