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Cautiousness, skewness preference, and demand for options

Research output: Contribution to journalJournal articlepeer-review

<mark>Journal publication date</mark>10/2014
<mark>Journal</mark>Review of Finance
Issue number6
Number of pages21
Pages (from-to)2375-2395
Publication StatusPublished
Early online date14/11/13
<mark>Original language</mark>English


In this article we establish cautiousness as a new downside risk aversion measure, using a portfolio problem with a risk-free bond, a stock, and an option. We show that, an investor has higher cautiousness (i) if and only if she is always more likely
to buy the option; and (ii) if and only if she always demands more options per share. As an option’s payoff is a convex function, increasing positions in the option increases the convexity of a portfolio, which leads to an increase in skewness. Thus the results in this article establish the link between cautiousness and skewness preference.