This paper is about behaviour under ambiguity-that is, a situation in which probabilities either do not exist or are not known. Our objective is to find the most empirically valid of the increasingly large number of theories attempting to explain such behaviour. We use experimentally-generated data to compare and contrast the theories. The incentivised experimental task we employed was that of allocation: in a series of problems we gave the subjects an amount of money and asked them to allocate the money over three accounts, the payoffs to them being contingent on a 'state of the world' with the occurrence of the states being ambiguous. We reproduced ambiguity in the laboratory using a Bingo Blower. We fitted the most popular and apparently empirically valid preference functionals [Subjective Expected Utility (SEU), MaxMin Expected Utility (MEU) and α-MEU], as well as Mean-Variance (MV) and a heuristic rule, Safety First (SF). We found that SEU fits better than MV and SF and only slightly worse than MEU and α-MEU.
This paper studies the implication of the Uncertainty Aversion Axiom of Schmeidler (1989) on the problem of portfolio choice under ambiguity, which involves allocating the proportions of an initial wealth to several assets of unknown probability distributions. Our main result shows that if an investor is risk averse and conforms to the uncertainty aversion axiom, then preference under ambiguity in a portfolio space is convex. This means that the convexity in a portfolio choice problem can be guaranteed without restricting preference representation to a particular functional form.
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