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Dynamic General Equilibrium and T-Period Fund Separation

Published online by Cambridge University Press:  02 February 2010

Anke Gerber
University of Hamburg, Department of Economics, Von-Melle-Park 5, 20146 Hamburg, Germany.
Thorsten Hens
Swiss Finance Institute and Swiss Banking Institute, Plattenstr. 32, CH-8032 Zurich, Switzerland and Norwegian School of Economics and Business Administration, Helleveien 30, 5042 Bergen, Norway.
Peter Woehrmann
Swiss Federal Institute of Technology Zurich, KPL F 38.2, Kreuzplatz 5, 8032 Zurich, Switzerland.


In a dynamic general equilibrium model, we derive conditions for a mutual fund separation property by which the savings decision is separated from the asset allocation decision. With logarithmic utility functions, this separation holds for any heterogeneity in discount factors, while the generalization to constant relative risk aversion holds only for homogeneous discount factors but allows for any heterogeneity in endowments. The logarithmic case provides a general equilibrium foundation for the growth-optimal portfolio literature. Both cases yield equilibrium asset pricing formulas that allow for investor heterogeneity, in which the return process is endogenous and asset prices are determined by expected discounted relative dividends. Our results have simple asset pricing implications for the time series as well as the cross section of relative asset prices. It is found that on data from the Dow Jones Industrial Average, a risk aversion smaller than in the logarithmic case fits best.

Research Articles
Copyright © Michael G. Foster School of Business, University of Washington 2010

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