Principles for Lifetime Portfolio Selection: Lessons from Portfolio Theory

Abstract

Portfolio theory is concerned with developing general principles and practical models for making sound lifetime portfolio decisions. Much of the current research on portfolio theory emanates from the path-breaking mean–variance portfolio model of Nobel Laureate Harry Markowitz. Although the mean–variance model continues to be the most widely used portfolio model in financial practice, economists have devoted considerable effort to research on two additional models of portfolio behavior, the geometric mean model, and the lifetime consumption–investment model. These models are also useful to investors because they offer significant additional insights into optimal portfolio behavior. The purpose of this chapter is to review the major findings of the research literature on the mean–variance model, the geometric mean model, and the lifetime consumption–investment model, and, on the basis of this review, to develop a set of practical guidelines for making lifetime portfolio decisions.