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The Willingness to Pay for Diversification

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  • Ola Mahmoud

    (University of St. Gallen, St. Gallen 9000, Switzerland; University of California at Berkeley, Berkeley, California 94720)

Abstract

Diversification is a fundamental concept in economics and finance. This paper argues that decision makers have an intrinsic preference for diversification that is responsive to cost and that this willingness to pay for diversification is driven by risk aversion and loss aversion. In an experiment replicating a portfolio choice problem, the value of diversification is estimated to be at 5% of the initial endowment of approximately $100. Moreover, risk-averse and loss-averse individuals are willing to pay more for diversification. These findings point to the idea that diversification is a fundamental preference and may help explain portfolio choice anomalies such as irrational diversification, the diversification bias, and overdiversification.

Suggested Citation

  • Ola Mahmoud, 2022. "The Willingness to Pay for Diversification," Management Science, INFORMS, vol. 68(8), pages 6235-6249, August.
    • Handle: RePEc:inm:ormnsc:v:68:y:2022:i:8:p:6235-6249
    DOI: 10.1287/mnsc.2021.4122
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    References listed on IDEAS

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