TY  - JOUR
AU  - Lynch,Anthony W.
AU  - Tan,Sinan
TI  - Labor Income Dynamics at Business-Cycle Frequencies: Implications for Portfolio Choice
JF  - National Bureau of Economic Research Working Paper Series
VL  - No. 11010
PY  - 2004
Y2  - December 2004
UR  - http://www.nber.org/papers/w11010
L1  - http://www.nber.org/papers/w11010.pdf
N1  - Author contact info:
Anthony W. Lynch
New York University
44 W. 4th Street, #9-190
New York, NY  10012
Tel: 212/998-0350
Fax: NA
E-Mail: alynch@stern.nyu.edu

Sinan Tan
Stern School of Business
New York University
44th West 4th Street
New York, NY 10012
Tel: 212/998-0560
E-Mail: stan@stern.nyu.edu
AB  - A large recent literature has focused on multiperiod portfolio choice with labor income, and while the models are elaborate along several dimensions, they all assume that the joint distribution of shocks to labor income and asset returns is i.i.d.. Calibrating this joint distribution to U.S. data, these papers obtain three results not found empirically for U.S. households: young agents choose a higher stock allocation than old agents; young agents choose a higher stock allocation when poor than when rich; and, young agents always hold some stock. This paper asks whether allowing the conditional joint distribution to depend on the business cycle can allow the model to generate equity holdings that better match those of U.S. households, while keeping the unconditional distribution the same as in the data. Calibrating the business-cycle variation in the first two moments of labor income growth to U.S. data leads to large reductions in stock holdings by young agents with low wealth-income ratios. The reductions are so large that young, poor agents now hold less stock than both young, rich agents and old agents, and also hold no stock a large fraction of the time. Our results suggest that the predictability of labor-income growth at a business-cycle frequency plays an important role in a young agent's decision-making about her portfolio's stock holding.
ER  -