Integrated risk model in household life cycle

Krzysztof Jajuga, Łukasz Feldman, Radosław Pietrzyk, Paweł Rokita

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ISBN/ISSN:

978-83-7695-528-5

DOI:

Wydawnictwo:

Wydawnictwo Uniwersytetu Ekonomicznego we Wrocławiu

Rok wydania:

2015

Liczba stron:

300

XML:ISBN/ISSN:

ONIX MARC21

Bibliografia:

. Integrated risk model in household life cycle. Red. Jajuga, Krzysztof; Feldman, Łukasz; Pietrzyk, Radosław; Rokita, Paweł . : Wydawnictwo Uniwersytetu Ekonomicznego we Wrocławiu, 2015, 300 s. ISBN 978-83-7695-528-5

Bibliografia refWorks:

RT Book, Whole

SR Electronic(1)

A2 Jajuga, K.

A2 Feldman, Ł.

A2 Pietrzyk, R.

A2 Rokita, P.

T1 Integrated risk model in household life cycle

PB Wydawnictwo Uniwersytetu Ekonomicznego we Wrocławiu

YR 2015

SN 978-83-7695-528-5

Bibliografia BibTex:

@Book{ 172342, author = "", editor = "Jajuga, Krzysztof and Feldman, Łukasz and Pietrzyk, Radosław and Rokita, Paweł", title = "Integrated risk model in household life cycle", publisher = "Wydawnictwo Uniwersytetu Ekonomicznego we Wrocławiu", year = "2015", address = "", isbn = "978-83-7695-528-5" }

Bibliografia endNote:

TY - BOOK

AU -

ED - Jajuga, Krzysztof

ED - Feldman, Łukasz

ED - Pietrzyk, Radosław

ED - Rokita, Paweł

TI - Integrated risk model in household life cycle

PB - Wydawnictwo Uniwersytetu Ekonomicznego we Wrocławiu

CY -

PY - 2015

SN - 978-83-7695-528-5

ER -

Netografia (standard APA):

. Red. Jajuga, Krzysztof; Feldman, Łukasz; Pietrzyk, Radosław; Rokita, Paweł. Integrated risk model in household life cycle [baza danych online] : Wydawnictwo Uniwersytetu Ekonomicznego we Wrocławiu, 2015 [dostęp: 01 09 2024]. Dostęp w Ibuk Libra: https://libra.ibuk.pl/reader/integrated-risk-model-in-household-life-cycle-krzysztof-jajuga-lukasz-172342.

risk, economics, personal finance, financial goals of households

„This monograph [...] will be an interesting and inspiring reading matter for a broad public”. prof. dr hab. Grażyna Trzpiot University of Economics in Katowice ”The book is the fi rst study of this kind in Poland and, I think, a...

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ISBN/ISSN:

978-83-7695-528-5

DOI:

Wydawnictwo:

Wydawnictwo Uniwersytetu Ekonomicznego we Wrocławiu

Rok wydania:

2015

Liczba stron:

300

XML:ISBN/ISSN:

ONIX MARC21

Introduction10
1 Financial planning in a household14
1.1 Basic problems of personal finance15
1.2 Financial planning in personal finance20
1.3 Decision making by individuals and households28
1.3.1 Needs and preferences of household’s members28
1.3.2 Decision making process31
1.3.3 Utility theory33
1.3.4 Utility-based choice theory37
1.4 Intertemporal choice and consumption models43
2.1 Risk – basic concepts54
2 Risk in personal finance54
2.2 The role of risk in household financial planning61
2.3 Types of risk and risk factors68
2.3.1 Life-length risk75
2.3.2 Risk of investments and financing78
2.3.3 Income risk81
2.3.4 Risk of events (insurance-like events)83
2.3.5 Risk of goal realization84
2.3.6 Operational risk of plan management (the risk of plan implementation)87
2.3.7 Model risk90
2.4 Measurement of risk92
2.4.1 Risk measures based on the statistical distribution of risk variable93
2.4.2 Risk measures based on the dependence on risk factors100
2.4.3 Risk measurement for a discrete variable100
2.4.4 Risk measurement for the time variable102
2.4.5 Extreme risk measurement104
2.4.6 Risk measurement in a multivariate case106
2.4.7 Concluding remarks108
2.5 Steering of risk109
3 Household – definition, preferences and goals116
3.1 Definition of the household117
3.2 Financial goals of households119
3.2.1 Type I (Child)125
3.2.2 Type II (Retirement)126
3.2.3 Type III (House)127
3.2.4 Type IV (Endowment)129
3.2.5 Type V (Bequest)130
3.3 Stochastic goals in household financial planning131
3.3.1 Time and magnitude distributions134
3.3.2 Child’s birth moment135
3.3.3 House value and purchase time137
3.3.4 Distribution of household end (for the moment of bequest goal realization)138
3.4 Financing of the goals139
3.3.5 Distribution of the survival scenario139
3.4.1 Pre-financing140
3.4.2 Post-financing141
3.4.3 Remarks on pre- and post-financing cash flows143
3.4.4 Contingency financing143
3.5 Household preferences145
3.5.1 Utility function and risk aversion145
3.5.2 The bequest motive147
3.5.3 Multiple goals151
3.5.4 Preferences in the model154
4 Household financial planning model161
4.1 General concepts and assumptions162
4.1.1 Main financial categories162
4.1.2 Critical dates167
4.1.3 Retirement investment schemes169
4.1.4 The role of the bequest motive176
4.2 Life-length risk aversion in the model177
4.3 A model with the retirement goal only181
4.4 Extension to include other financial goals190
4.4.1 Augmenting the model by the stochastic child’s birth time190
4.4.2 Type III goal in the model192
4.4.3 Including Type III goal using quantiles of real estate price distribution194
4.5 Financing goals and risk of financing196
5.1 Considered types of risk and the way of incorporating them into the model198
5 Including risk in the household financial planning model198
5.2 Integrated measures of risk204
5.2.1 Residual Wealth at Risk (RWaR)207
5.2.2 Residual Wealth Volatility (RWV)209
5.2.3 Residual Wealth Aspiration Level (RWAL)210
5.2.4 Lifetime Cumulated Net Cash Flow at Risk (LCNCFaR, LCaR)211
5.2.5 Incremental shortfall (ISh)214
5.2.6 Shortfall Scenario Probability (ShSP)215
5.2.7 Household Default Probability (HDP)216
5.3 Managing plan under risk219
6 The model at work – numerical examples and analysis of model properties224
6.1 The width of the range of concern and plan performance under life-length risk226
6.2 The role of the consumption preference and the bequest motive – numerical example240
6.3 Life-length risk sharing within a couple247
6.4 Risk of investment in the model – numerical examples262
6.5 Summary of numerical examples282
Conclusions285
References287
List of figures294
List of tables296

1.1Basicproblemsofpersonalﬁnance

cashﬂowsisthefollowing:atthebeginningthereis(oneormore)outﬂow,thenin

thefuturethereis(atleastone)inﬂow.Inﬁnancing,typicaltermstructureofcash

ﬂowsisthis:atthebeginningthereis(oneormore)inﬂow,theninthefuturethereis

(atleastone)outﬂow.

Inthisbook,thetermﬁnancingisusedinabroadermeaning.Namely,itrefers

toalltypesofactivitiesaimedatsupplyingﬁnancialmeansforcoveringthe

expenditureswhicharenecessarytorealizesomeﬁnancialgoalsofahousehold.

Thismeansthatboth,investingandanykindofloantaking,belongtothescopeof

ﬁnancing.Investingisthenusedasatoolofthepre-ﬁnancing,whereascreditsand

otherloans-forpost-ﬁnancing.

Financialtheoryputsverystrongemphasisontwomethodologicalissues:

valuationandriskanalysis.Personalﬁnancereliesstronglyonthesemethods.This

bookisdevotedtoriskanalysis,butitalsousesvaluationmethodology.

Thereisanotherterm,whichhasaverystrongconnectiontopersonalﬁnance.

Thisisthe“privatewealthmanagement”,whichreceivedalotofinterestinthelast

twentyyears.Sometimesbothtermsareusedassynonyms,butaftertheanalysisof

literatureandpractice,wewouldliketodrawamaindistinctionbetweentheseterms.

Personalﬁnanceisawiderterm,and:

•

Itconcentratesonthelifetimegoals;

•

Itlooksatallactivitieswherecashﬂowisinvolved(investment,ﬁnancing,

consumptionexpenditures,etc.);

•

Itdoesnotsetwealthrestrictions;

Privatewealthmanagementis(usually)anarrowerterm,and:

•

Itconcentratesoninvestmentgoals;

•

Itlooksonlyoninvestmentactivities;

•

Itmaysetwealthrestrictions,beinglimitedtotheso-calledHighNetWorth

InvestorsandUltraHighNetWorthInvestors.

Thedynamicdevelopmentoftheoryandpracticeofpersonalﬁnancehasbeen

drivenbyseveralfactors.Theﬁrstoneisthegrowthofthehouseholdwealthinmany

countriesintheworld.Toprovideanexample,letuslookatthedatapublished

annuallybyCreditSuisseintheWealthGlobalReport.Thereportshowsaverylarge

increaseofthehousehold’swealthintheperiodfrom2000to2014.Letusgivethe

numbersforthreecountriesbelongingtothreedifferentgroups.Datashowsthe

growthofwealthperonememberofthehouseholdfrom2000to2014:

•

Switzerland-growthfrom232,548USDto580,686USD-increaseby

149.7%;

•

Poland-growthfrom8,871USDto27,731USD-increaseby212.6%;

•

Bangladesh-growthfrom1,037USDto2,017USD-increaseby94%.

Theoppositeexamplesareveryfew,forexampleBelarus-fallfrom2,224USD

to2,179USD,whichisadecreaseby2%.

Thesecondimportantfactorwhichcontributedtothedevelopmentofpersonal

ﬁnanceistheincreasingcomplexityofmanyﬁnancialinstruments.Unfortunately,it

issometimesalsolinkedwiththeirlowtransparency.Thiscausesthenecessityof

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