An Improved Measure of Risk Aversion

TLDR

The study develops an improved measure of financial risk aversion based on income gambles and links it to optimal portfolio choices. The authors modify a prior risk‑aversion metric by adding graphical representations, compare its responses to non‑graphical versions, and benchmark it against the Survey of Consumer Finances risk‑tolerance question. Among 152 students, the new measure’s risk‑aversion estimates correlate significantly with the SCF risk‑tolerance question.

Abstract

This study investigates financial risk aversion using an improved measure based on income gambles and rigorously related to optimal portfolio choices. The new measure modifies a previous measure by adding graphical presentations to clarify the impact of different income choices. We compared the measure’s responses to those of previous non-graphical versions. To enable comparisons to an established risk measure, we also asked the Survey of Consumer Finances (SCF) risk tolerance question. Based on responses from 152 students, there is a significant correlation between relative risk aversion estimates based on the new measure and the SCF question.