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Behavioral Portfolio Theory

Published online by Cambridge University Press:  06 April 2009

Hersh Shefrin  and
Meir Statman
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Abstract

We develop a positive behavioral portfolio theory (BPT)and explore its implications for portfolioconstrution and security design. The optimalportfolios of BPT investors resemble combinations ofbonds and lotterly tickets consistent with Friedmanand Savage's (1948) observation. We compare the BPTefficient frontier with the mean-variance efficientfrontier and show that, in general, the twofrontiers do not coincide. Optimal BPT portfoliosare also different from optimal CAPM portfolios. Inparticular, the CAPM two-fund separation does nothold in BPT. We present BPT in a single mentalaccount version (BPT-SA) and a multiple mentalaccount version (BPT-SA). BPT-SA investors integratetheir portfolios into a single mental account, whileBPT-SA investors segregate their portfolios intoseveral mental accounts. BPT-SA portfolios resemblelayered pyramids, where layers are associated withaspirations. We explore a two-layer portfolio wherethe low aspiration layer is designed to avoidpoverth while the high aspiration layer is designedfor a shot at riches.

Information

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 35 , Issue 2 , June 2000 , pp. 127 - 151
Copyright
Copyright © School of Business Administration, University of Washington 2000

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Footnotes

*

Both authors, Department of Finance, LeaveySchool of Business, Santa Clara University, santaClara, CA 95053. We thank Enrique Arzac, PeterBernstein, the late fisher Black, Werner De Bondt,Daniel Kahneman, Lola Lopes, Harry Markowitz, andDrazen Prelec for comments. We also thank StephenBrown (the editor) and William Goetzmann(associate editor and referee) for construtiveadvice on how to shape the paper. This work wassupported by the National Science Foundation,grant NSF SES-8709237, and the Dean WitterFoundation.

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