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Human Capital and Popular Investment Advice

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  • Glenn W. Boyle
  • Graeme A. Guthrie

Abstract

Popular investment advice recommends that stock/bond and stock/wealth ratios should rise with investor risk tolerance and investment horizon respectively, prescriptions that are difficult to reconcile with the simple mean-variance model. We show that extending the mean-variance model to include human capital, without any other modifications, can simultaneously justify both recommendations, so long as the correlation between labour income and stock returns falls within a range determined by market and investor-specific parameters. Aggregate labour income data from 11 countries generally satisfy this requirement, as do plausible individual income processes. We also consider the implications of human capital for the optimal bond/wealth ratio over the investment horizon, and examine the sensitivity of the stock/bond mix to the volatility of labour income.

Suggested Citation

  • Glenn W. Boyle & Graeme A. Guthrie, 2005. "Human Capital and Popular Investment Advice," Review of Finance, European Finance Association, vol. 9(2), pages 139-164.
    • Handle: RePEc:oup:revfin:v:9:y:2005:i:2:p:139-164.
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    File URL: http://hdl.handle.net/10.1007/s10679-005-7595-1
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    Cited by:

    1. Hui-Ju Tsai & Yangru Wu, 2015. "Optimal portfolio choice with asset return predictability and nontradable labor income," Review of Quantitative Finance and Accounting, Springer, vol. 45(1), pages 215-249, July.
    2. Chakroun, Oussama & Dionne, Georges & Dugas-Sampara, Amélie, 2006. "Empirical evaluation of investor rationality in the asset allocation puzzle," Working Papers 06-11, HEC Montreal, Canada Research Chair in Risk Management.
    3. Fabio C. Bagliano & Carolina Fugazza & Giovanna Nicodano, 2014. "Optimal Life-Cycle Portfolios for Heterogeneous Workers," Review of Finance, European Finance Association, vol. 18(6), pages 2283-2323.

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