Gyoocheol Shim

An optimal job, consumption/leisure, and investment policy

In this paper we investigate an optimal job, consumption, and investment policy of an economic agent in a continuous and infinite time horizon. The agents preference is characterized by the Cobb-Douglas utility function whose arguments are consumption and leisure. We use the martingale method to obtain the closed-form solution for the optimal job, consumption, and portfolio policy. We compare the optimal consumption and investment policy with that in the absence of job choice opportunities.

Consumption/investment problem when the investment opportunity set can be enlarged by information gathering

I investigate an optimal information gathering and consumption/investment choice of an investor who can find a better opportunity by an information gathering option. I obtain a closed form solution, under which, the investor gathers information as soon as his wealth exceeds a certain critical level, consumes less and takes more risk than he would in the absence of such an option.

Degree of Borrowing Constraints and Optimal Consumption and Investment under a General Utility Function

I study optimal consumption and investment choices of an infinitely-lived economic agent with a general time-sepa- rable von Neumann-Morgenstern utility under general borrowing constraints against future labor income. An explicit solution is provided by the dynamic programming method. It is shown that the optimal consumption and risky invest- ment decrease as the borrowing constraints become stronger.

Investment Horizon, Risk-Taking, and Entrepreneurial Project Selection

We consider the entrepreneur’s problem of having a real investment opportunity with undiversifiable risk in a finite horizon. By explicitly characterizing the consumption and investment problem, we show that the remaining time to undertake the project has a significant impact on the characteristics of a firm’s cash flow or return dynamics. Our theory predicts that a firm with an ample time horizon to invest tends to have a cash flow or the stock return with a higher idiosyncratic volatility. Furthermore, we also extend the baseline model to the cases in which the entrepreneur has several projects that can only be sequentially exercised. In this case, a project with a lower idiosyncratic volatility will be exercised first when the investment horizon is long.

Time Preference and Real Investment

This paper studies the investment timing problem of an entrepreneur with a non-tradable real option with undiversifiable risk. We find that the time preference can have a significant impact on the risk attitude toward the idiosyncratic risk, which results from the wealth effect on the implied option value. If the agent is impatient (patient), an increase in idiosyncratic volatility increases (decreases) the agent’s value and delays (hastens) investment. This finding suggests several important implications and empirical predictions for investment decisions in private firms and public firms with concentrated ownership.

Optimal Retirement Time and Consumption/Investment in Anticipation of a Better Investment Opportunity

We investigate an optimal retirement time and consumption/investment policy of a wage earner who expects to find a better investment opportunity after retirement by being freed from other work and participating fully in the financial market. We obtain a closed form solution to the optimization problem by using a dynamic programming method under general time-separable von Neumann-Morgenstern utility. It is optimal for the wage earner to retire from work if and only if his wealth exceeds a certain critical level which is obtained from a free boundary value problem. The wage earner consumes less and takes more risk than he would without anticipation of a better investment opportunity.

The crisis and financial engineering

In this article we review the financial market development which led to the 2007-2009 financial crisis. We argue that the crisis was not because of derivatives or financial engineering products but because of lack of proper regulatory framework despite the rapid innovations in technology and markets. We explain what has been lacking in the discipline of financial engineering which underlies the technological development and propose the augmentations necessary for the discipline. We finally point to areas where the financial engineering community can make contributions in formulating a new sustainable regulatory framework.