Does Ambiguity Diversification Pay?
|Keywords:||Ambiguity, Ambiguity Measure, Risk;Uncertainty, Knightian Uncertainty, Random Probabilities|
|Abstract:||With a focus on risk, classical portfolio theory assumes that probabilities of future outcomes are known. In reality, however, there is ambiguity in these probabilities. This paper studies the nature of the relationship between risk and ambiguity and proves that in most cases ambiguity cannot be diversified without increasing risk. This insight implies that holding a fully diversified portfolio is not necessarily optimal. It challenges the conventional wisdom which asserts that investors should hold such a portfolio.|
|Rights:||Copyright Yehuda Izhakian, July 2012.|
|Appears in Collections:||Economics Working Papers|
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