Abstract

1 Human capital investment and portfolio choice over the life-cycle I study a theoretical model of life-cycle portfolio choice for an investor who has an option to invest in human capital but is liquidity constrained. I find that, since the young are more likely to exercise the option than the old, they are more concerned about liquidity risk (i.e. the risk that the liquidity constraint binds when it is optimal to invest). This, in turn, implies a hump-shaped pattern of lifetime risky asset holdings: portfolio share invested in equities is increasing for the young and decreasing for the older agents. Optimal investment rule and the precautionary demand for the riskless asset vary with the business cycle, which suggests potential implications for asset pricing.

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