<p>Is it possible to do asset pricing by using the expected utility of the present value of all future discounted cash flows ? I aim to use this utility function to define an optimal portfolio, but I have not really seen any examples of this in finance. However, I believe that 2 period asset pricing models kind of rely on the same idea.</p>
<p>Thank you.</p>

CC BY-SA 4.0
2024-05-24T06:51:07.453Z
Interesting question. However, i guess a problem for a practical applications is that you need to have information about the type and parameters of the utility function. Thats why practitioners usually assume risk neutrality and price assets under the Q measure instead under P as no information about the utility function is needed. Mark Kritzman gave a nice example how to price a call option using first a) the RN approach and then b) using CAPM with risk premia to price the very same option. Risk premia here reflects your risk preferences..
T123
CC BY-SA 4.0
2024-05-24T06:53:10.877Z
In addition as you mentioned finding an optimal portfolio you note that asset pricing usually is done under Q but optimization is done under P. W.r.t. the latter there is a lot of literature out there.
T123
CC BY-SA 4.0
2024-05-24T14:52:03.043Z
Thank you for your answer, my work is actually theoretical, I am trying to find a perfect bayesian equilibrium in a game of investors and a firm. The investors have green preferences and the firm needs to decide whether to buy a green technology. The green preferences are really difficult to deal with, CCAPM gives transcendental bellman equations, and I took this idea from cost-benefit analysis but haven't found a concrete example on it.
Ignacio Canabal
CC BY-SA 4.0
2024-05-24T18:58:27.073Z
Since utility is nonlinear, I doubt it would make sense to replace a sum of (discounted) utilities of some cash flow by the utility of the sum of (discounted) cash flow. The utility of the sum of (discounted) cash flow is an infeasible thing, unless you find someone who is willing to give you the sum of the (discounted) cash flow now in place of the actual cash flow distributed over time.
Richard Hardy
<financial-economics><asset-pricing><expected-utility><portfolio-theory>
Can we use the utility of discounted flows to do asset pricing?
Ignacio Canabal
# Can we use the utility of discounted flows to do asset pricing?

(Asked by: username_0 on 2024-05-23)

Is it possible to do asset pricing by using the expected utility of the present value of all future discounted cash flows ? I aim to use this utility function to define an optimal portfolio, but I have not really seen any examples of this in finance. However, I believe that 2 period asset pricing models kind of rely on the same idea.

Thank you.

**Tags:** financial-economics, asset-pricing, expected-utility, portfolio-theory

> **Comments:**
> **username_1**: Interesting question. However, i guess a problem for a practical applications is that you need to have information about the type and parameters of the utility function. Thats why practitioners usually assume risk neutrality and price assets under the Q measure instead under P as no information about the utility function is needed. Mark Kritzman gave a nice example how to price a call option using first a) the RN approach and then b) using CAPM with risk premia to price the very same option. Risk premia here reflects your risk preferences..  
> **username_1**: In addition as you mentioned finding an optimal portfolio you note that asset pricing usually is done under Q but optimization is done under P. W.r.t. the latter there is a lot of literature out there.  
> **username_0**: Thank you for your answer, my work is actually theoretical, I am trying to find a perfect bayesian equilibrium in a game of investors and a firm. The investors have green preferences and the firm needs to decide whether to buy a green technology. The green preferences are really difficult to deal with, CCAPM gives transcendental bellman equations, and I took this idea from cost-benefit analysis but haven't found a concrete example on it.  
> **username_2**: Since utility is nonlinear, I doubt it would make sense to replace a sum of (discounted) utilities of some cash flow by the utility of the sum of (discounted) cash flow. The utility of the sum of (discounted) cash flow is an infeasible thing, unless you find someone who is willing to give you the sum of the (discounted) cash flow now in place of the actual cash flow distributed over time.  

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## 0 answers

