Sunday, October 11, 2009: 9:00 AM
The incompatibility of expected utility theory with a preference for a diversified portfolio was proved in the 1960s, and has led economists to ignore diversification. It is here shown that desire for a diversified portfolio is sensible, rational – and thus that it is expected utility theory that is unreasonable. Adherence to it hampers measures to increase the financial stability at the firm, national and international level. The problem is that expected utility theory fails to allow for the fundamental role of time in making a risky choice. To allow for this, requires SKAT, the Stages of Knowledge Ahead Theory.