Household investment-consumption-insurance policies under the age-dependent risk preferences

Abstract

In this paper, we examine the optimal investment-consumption-insurance policies for a wage earner with time-varying risk preferences. The wage earner's objective is to find the optimal investment-consumption-insurance strategies that maximise the expected discounted utilities from intertemporal consumption, legacy and terminal wealth over the uncertain lifetime horizon. Similar to Lichtenstern et al. [Optimal life-cycle consumption and investment decisions under age-dependent risk preferences. Mathematics and Financial Economics, 15, 275–313], by using a separation approach, the problem is divided into two sub-problems, including the consumption-legacy problem and the terminal wealth-only problem. For each sub-problem, the analytical expressions for the optimal strategies and value functions are derived by using the martingale method. In such a way, we obtain the optimal strategies for the original problem by merging the solutions of the two individual problems. Finally, we conduct some numerical experiments to illustrate the effects of some parameters on the optimal strategies and obtain some economic insights.