THE VALUE OF A BLANK CHECK

Extensive research on the ability of a carefully selected mean-variance efficient portfolio to give almost maximum expected utility shows that, generally, this ability falls as relative risk aversion increases. For one form of utility function, it has been argued that the level of risk aversion at which mean-variance breaks down is pathological in that an investor with such risk aversion would prefer a few percent return with certainty to a costless chance of unlimited gain. The authors explore this argument further, including a small survey of the value investors attach to a chance for a blank check.