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Investors Want Both More Risk and More Information

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Title:Investors Want Both More Risk and More Information
Authors:David Johnstone
Keywords:Bayesian accounting theory
Bayesian predictive distribution
parameter risk
payoff risk
show 1 moreCAPM
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Date Issued:13 Aug 2019
Abstract:Market folklore says that investors abhor uncertainty. But if there were no uncertainty, investors could earn only the risk-free interest rate. So how much risk do investors want resolved? Using a payoffs form of CAPM, I find that the mean-variance investor buying the risky asset is attracted to invest by higher payoff risk. Higher payoff risk, accounted for in the rational asset price, translates unconditionally to higher ex ante expected utility (the payoff mean makes no difference). Also contrary to intuition, resolution of parameter risk can heighten payoff risk - and hence increase expected utility. By distinguishing payoff risk from parameter risk, more is revealed about why decision makers always want more information. Ultimately, both potential buyers and existing owners of a risky asset want more information about it before they trade, but they want it for different reasons
Appears in Collections: 20 Theory

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