Price impact,strategic interaction and portfolio choice |
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| Institution: | 1. School of Economics, Guangxi University, Nanning, Guangxi 530004, China;2. School of Business Administration, South China University of Technology, Guangzhou, Guangdong 510641, China;1. READT International Resources Limited, Nigeria and Department of Economics, University of Pretoria, Private Bag X20, Hatfield 0028, South Africa;2. Department of Economics, University of Pretoria, Private Bag X20, Hatfield 0028, South Africa;3. Department of Economics, Helmut Schmidt University, Holstenhofweg 85, P.O.B. 700822, 22008 Hamburg, Germany |
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| Abstract: | This paper studies the portfolio choice of two large investors who act strategically because their trading affects interest rates. Each investor chooses her optimal portfolio conditional on the portfolio of the opponent. Equilibrium portfolios and their performance depend on the investor’s characteristics (risk aversion and return impact) and on the characteristics of the opponent (risk aversion and return impact). Depending on the interplay among these characteristics, strategic interaction can (i) increase or decrease risk taking incentives, as compared to the Merton-style portfolio, (ii) induce the more risk-averse investor to invest relatively more in the risky asset and (iii) change the role of inflation-linked bonds from hedging instrument to borrowing opportunity. |
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| Keywords: | Portfolio choice Price impact Strategic interaction |
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