Question

Assume a stock market with only two assets: one risky, one risk-free.

Assume two investors who are identical, except for their degree of risk aversion. (Same wealth, same investment horizon, etc.)

Investor A has a degree of risk aversion of 1.5, while investor B has a degree of risk aversion of 5.

Describe how their investment portfolio will differ

Answer 1

Degree of risk aversion will be reflecting the resistance of an investor towards investing into risky assets so investor who will be having a risk version of 5 will be trying to avoid investing into the risky asset and he will be trying to take more of investment into the risk-free Asset whereas the investor which has a risk aversion of of 1.5 will more likely to take risk and invest into balanced portfolio of risk free asset as well as risky asset.

Higher degree of risk aversion will reflect that investors are not ready to invest into risky assets because they do not like risk so they will rather be limiting their investment to risk free Assets and in this case that investor B who has a risk aversion of 5 will always try to take exposure in risk free asset and avoid risky asset where as investor A who has lower risk aversion is more likely to invest into risky assets as he does not fear taking risk at his risk Amazon is lower.