Utility function
The utility function
measures the satisfaction of an investor with regards to different financial
assets. It captures the investor’s risk aversion.
CARA utility function
The absolute risk
aversion is the amount that the investor is ready to pay to avoid an
increase of one unit in the variance of his financial assets. The CARA utility
function corresponds to a Constant Absolute Risk Aversion.
CRRA utility function
The relative risk
aversion is the proportion of his income that the investor is ready to pay to avoid an
increase of one unit in the variance of his financial assets. The CRRA utility
function corresponds to a Constant Relative Risk Aversion.
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