Household life‐cycle asset allocation and background risk of labor income

Abstract

PurposeThe purpose of this paper is to empirically analyze the relationship between risky asset allocation and background risk of Chinese residents.Design/methodology/approachUsing Chinese macroeconomic data, this study uses numerical method to solve dynamic stochastic optimal problem.FindingsWhen risk of labor income is considered, ratio of risky asset declines with rising of age for those people with same age and wealth state; any of the following situations will lead to lower risky assets holdings: lower labor income growth expectations, higher labor income risk or higher labor and financial market covariance risk.Research limitations/implicationsThis study uses real economy investment return as a proxy of risky asset return.Practical implicationsResidents with higher background risks should hold less risky assets, and overcome home‐bias problem during asset allocation.Originality/valueThis study takes two kinds of background risk into consideration: labor income risk, and covariance between labor income and risk asset.