Sei sulla pagina 1di 212

RISK-TAKING BEHAVIOR AND WELL-BEING OF YOUNG BABY BOOMERS

DISSERTATION

Presented in Partial Fulfillment of the Requirements for


the Degree Doctor of Philosophy in the Graduate
School of The Ohio State University

By

Mei-Chi Fang, M.A.

*****

The Ohio State University


2009

Dissertation Committee: Approved by

Dr. Gong-Soog Hong, Co-Adviser

Dr. Kathryn Stafford, Co-Adviser Co-Adviser

Dr. Robert Scharff Co-Adviser

College of Education and Human Ecology


ABSTRACT

Well-being of the baby boomer generation has been a concern for decades,

particularly regarding retirement well-being. An unbalanced attention, however, has been

concentrated on old baby boomers, motivating the current study to model well-being of

young baby boomers in economic, physical, and psychological dimensions, where the

predictors of well-being such as risk-taking behavior in different domains were

simultaneously endogenously determined within the theoretical framework.

The data used for this study were from the 1979, 1980, 1981, 1993, 2000, 2002,

2004, and 2006 waves of the National Longitudinal Survey of Youth 1979. Well-being in

each dimension, investment in risky financial assets, and investment in education are

jointly modeled using simultaneous equations models.

In the first equation of the simultaneous equations model, years of schooling

which was an indicator of education investment was predicted by one’s risk tolerance and

a set of preference characteristics. Objective risk tolerance under the drug use and sales

domain was found to have a significantly negative impact on years of schooling, which

means less risk tolerant persons invest more in themselves via education. Consistently,

females, Hispanics, and Blacks who were commonly considered less risk tolerant or more

economically disadvantaged were found to have more years of schooling. The findings

ii
provide evidence for the argument that investment in education may be viewed as one

type of insurance, rather than as risky investment, by the young baby boomer generation.

Young baby boomers who were not married or did not have any children also had more

years of schooling, reflecting the fact that investment in education involves considerable

opportunity costs. Therefore, the young boomers who were comparatively short of time

tended to invest less in education. Notice that parental education and education of the

oldest sibling affected education attainment of the young baby boomers, implying a

lasting and extensive effect of education investment that spreads not only from generation

to generation but also within generations.

The second equation in the simultaneous equations model was to examine

potential factors that explained any discrepancy in risky financial investments across the

young boomers. Empirical results supported the hypothesis that investment in education

is a significant predictor variable, which means the young baby boomers who have more

schooling allocate their money in the financial market in the form of holding more stocks

or possessing a higher ratio of risky financial assets to financial assets, including stocks,

corporate bonds or government securities, and mutual funds. Economic indicators such as

net worth and total family income had a positive effect, regardless of the definitions of

risky financial investments, which implies risky financial assets are normal goods. Home

ownership was also a significant predictor for both risky financial investment measures,

suggestive of a mechanism of diversification provided by home ownership that helps to

minimize the risk from any investment. Objective measures and survey-based measures

of risk tolerance, however, failed to account for multi-dimensional nature of risk.

iii
The last equation in the simultaneous equations model was to examine the

determinants of individual well-being in particular dimensions. Empirical evidence

demonstrated the importance of risky financial investment in determining the difference

in economic well-being and the significance of education investment in predicting the

discrepancy in economic well-being and psychological well-being, namely self-esteem.

Total family income partially explained the disparity in psychological well-being. Note

that preference characteristics played different roles across well-being dimensions,

accounting for a larger proportion of variation in economic, physical, and psychological

well-being. These results are suggestive of multi-dimensional well-being that cannot be

predicted by one single common factor, implying the necessity of diversity of

government policies and programs.

Based on the empirical results, theoretical and policy implications were drawn.

These findings suggest that the original Capital Asset Pricing Model partially explained

demand for risky financial assets. Deviations from the model emphasize the importance

of adding human capital and other types of assets to the explanation of demand for risky

financial assets. The current study has several implications for practitioner, policy makers,

and researchers. These implications pertain to allocation time and money on investments

in different domains, appropriate guidance to meet clients’ financial goals in terms of

their time-varying, conditional risk tolerance, instant transfer and tax policies for

subsidizing education investment, and development of assessment instruments including

multi-dimensional situations and scenarios in each specific domain to assess risk

tolerance of individuals.

iv
Dedicated to my parents, husband, and sisters

v
ACKNOWLEDGMENTS

I wish to thank my advisor, Dr. Gong-Soog Hong, for her support and guidance

during my graduate studies in the Ohio State University. Her encouragement and

enthusiasm made this dissertation possible. Her mentorship and friendship also helped me

endure difficult times in both academic and personal life. I would like to thank Dr.

Kathryn Stafford for her continuous help and priceless comments throughout the process

of writing my dissertation. The experience of doing research with her inspired me as well

as this dissertation. Her recommendations and suggestions polished my research and

writing skills.

I am grateful to Dr. Robert Scharff for his valuable advice in the completion of

this dissertation. I also appreciate the experience of doing research with him. He provided

me with invaluable sights that directed and challenged my thought. I owe gratitude to Dr.

Sherman Hanna, who opened my research eyes and piloted me on the research road. I

deeply treasure every opportunity that he has offered me. His consideration of the

deadlines and timely feedback were highly appreciated.

I also wish to thank those who helped me during the process of writing this

dissertation, especially Vibha, Martina, Soo-Hyun, Sandra, and Hae-Jin. I am also

grateful for editing help from Dr. Valerie Powers.

vi
I am truly grateful to my loving parents for believing in me and for providing me

the opportunities to pursue my dreams. I owe gratitude to my parents-in-laws for their

support and understanding. I am also thankful to my sisters, Ssu-Wan and Hong-Ning, for

their endless encouragement and love. I am eternally grateful to my husband, Hung-Yi,

for his love and support. I deeply appreciate his patience and understanding of my work,

his company to endure difficult times of my life, and his support to pursue my goal.

Without their love and support, I could have never achieved this goal.

vii
VITA

March 2, 1974………………………….. Born – Taipei, Taiwan

1996…………………………………….. B.A. Economics, National Taipei University.

1998…………………………………….. M.A. Economics, National Chi Nan University.

1998 - 2005………..……………………. Instructor,


Trans-world Institute of Technology, Taiwan

2006 - present…………………………... Graduate Teaching and Research Associate,


The Ohio State University

PUBLICATIONS

Research Publication

1. Fang, M. C., & Hanna, S. D. (2008). Racial/ethnic differences in the risk aversion

measure of the 2004 Health and Retirement Study. Consumer Interests Annual, 54.

2. Fang, M. C., & Scharff, R. L. (2008). Determinants of elderly obesity in urban,

suburban and rural communities. Consumer Interests Annual, 54.

3. Cho, S. H., Fang, M. C., & Hanna, S. D. (2007). Who has emergency saving

goals? Consumer Interests Annual, 53.

viii
4. Fang, M. C. (June 2007). Obesity and financial decision making. Poster session,

Proceedings of the 2009 AcademyHealth’s Annual Research Meeting.

5. Fang, M. C., & Hanna, S. D. (Oct 2007). Racial/ethnic differences in risk

tolerance in the 2004 Health and Retirement Study. Proceedings of the 2007 meeting of

the Academy of Financial Services.

6. Fang, M. C., & Scharff, R. L. (Nov 2007). Determinants of elderly obesity in

urban, suburban and rural communities. Poster session, Proceedings of the

Gerontological Society of America 60th Annual Scientific Meeting.

7. Fang, M. C., & Peng, T. M. (Nov 2006). The impact of insurance coverage on

demand for health care. Poster session, Proceedings of the Gerontological Society of

America 59th Annual Scientific Meeting.

8. Peng, T. M., & Fang, M. C. (Nov 2006). Economics of aging: Labor force

dynamics of older women. Poster session, Proceedings of the Gerontological Society of

America’s 59th Annual Scientific Meeting.

FIELDS OF STUDY

Major Field: Human Ecology


Family Resource Management

ix
TABLE OF CONTENTS
Page
Abstract .............................................................................................................................. ii
Dedication .......................................................................................................................... v
Acknowledgments ............................................................................................................. vi
Vita .................................................................................................................................. viii
List of Tables .................................................................................................................. xiv
List of Figures .................................................................................................................. xv

Chapters:

1. Introduction ................................................................................................................. 1
1.1 Background ........................................................................................................... 1
1.1.1 Definitions of risk .................................................................................... 3
1.1.2 Risk-taking behavior ................................................................................ 5
1.1.3 Baby boomer generation in the U.S ....................................................... 10
1.2 Problem statement ............................................................................................... 12
1.3 Purpose of the study ............................................................................................ 15
1.4 Significance of the study ..................................................................................... 16
1.5 Outline of the study ............................................................................................. 17
2. Review of literature ................................................................................................... 18
2.1 Risk tolerance ...................................................................................................... 18
2.1.1 Definitions of risk tolerance and risk aversion ...................................... 19
2.1.2 Measures of risk tolerance ..................................................................... 20
2.2 Determinants of investment in risky financial assets .......................................... 28

x
2.2.1 Effects of risk tolerance on investment in risky financial assets ........... 28
2.2.2 Effects of financial characteristics on investment in risky financial
assets ...................................................................................................... 29
2.2.3 Effects of demographic characteristics on investment in risky financial
assets ...................................................................................................... 31
2.3 Determinants of investment in education ........................................................... 35
2.3.1 Effects of risk tolerance on investment in education ............................. 35
2.3.2 Effect of personal characteristics on investment in education ............... 36
2.3.3 Effect of family background on investment in education ...................... 38
2.4 Individual well-being .......................................................................................... 40
2.4.1 Measures of well-being .......................................................................... 40
2.4.2 Determinants of well-being .................................................................... 48
2.5 Risk tolerance, risk-taking behavior, and individual well-being ........................ 50
3. Theoretical framework .............................................................................................. 52
3.1 Expected utility model ........................................................................................ 52
3.1.1 Description of expected utility model .................................................... 53
3.1.2 Measures of risk aversion from expected utility model ......................... 56
3.2 Capital asset pricing model ................................................................................. 58
3.2.1 Basic assumptions of CAPM ................................................................. 58
3.2.2 Equilibrium conditions under CAPM .................................................... 59
3.3 Specifications of theoretical model ..................................................................... 63
3.4 Hypotheses development .................................................................................... 65
3.4.1 Part one: determinants of investment in education ................................ 66
3.4.2 Part two: determinants of investment in risky financial assets .............. 67
3.4.3 Part three: determinants of Individual well-being ................................. 70
4. Data and methodology .............................................................................................. 72

xi
4.1 Data ..................................................................................................................... 72
4.2 Sample design ..................................................................................................... 75
4.3 Sample selection ................................................................................................. 76
4.4 Empirical method ................................................................................................ 79
4.4.1 Simultaneous equations model .............................................................. 79
4.5 Measurement of variables ................................................................................... 82
4.5.1 Dependent variables ............................................................................... 82
4.5.2 Independent variables ............................................................................ 91
4.6 Description of the Sample ................................................................................... 97
5. Results and discussion ............................................................................................ 109
5.1 Investment in education and investment in risky financial assets .................... 109
5.1.1 Multivariate Results for Model I .......................................................... 113
5.1.2 Multivariate Results for Model II ........................................................ 121
5.2 Well-being in economic, physical, and psychological dimension-in terms of
ratio of risky financial assets to financial assets .............................................. 124
5.2.1 Current earned income ......................................................................... 124
5.2.2 Family income ..................................................................................... 129
5.2.3 Physical Component Summary score .................................................. 131
5.2.4 Self-esteem ........................................................................................... 133
5.2.5 Mental Component Summary score ..................................................... 135
5.3 Well-being in economic, physical, and psychological dimension-in terms of
log of dollar amount of stocks .......................................................................... 137
5.3.1 Current earned income ......................................................................... 138
5.3.2 Family income ..................................................................................... 143
5.3.3 Physical Component Summary score .................................................. 144
5.3.4 Self-esteem ........................................................................................... 145

xii
5.3.5 Mental Component Summary score ..................................................... 146
5.4 Summary of Empirical Results ......................................................................... 147
6. Conclusions and implications ................................................................................. 152
6.1 Conclusions ....................................................................................................... 152
6.2 Implications ....................................................................................................... 157
6.2.1 Theoretical implications ....................................................................... 157
6.2.2 Implications for policymakers ............................................................. 159
6.2.3 Implications for research ...................................................................... 165

Bibliography .................................................................................................................. 169

Appendices

A Rosenberg’s (1965) 10-Item Global Self-Esteem Instrument..................................... 185


B Illegal Activities Involved in 1979 in the NLSY79 ................................................... 187
C Results of Simultaneous Equations Models for Risky Investments ............................189

xiii
LIST OF TABLES

Table Page

2.1 Measurements of risk tolerance in previous studies using the NLSY79 ................ 27

2.2 Measures of happiness or life satisfaction in surveys or previous studies .............. 47

4.1 Definitions of risky assets in previous studies ........................................................ 85

4.2 Measurements of investment in education in previous studies ............................... 87

4.3 Measurement of dependent and independent variables .......................................... 88

4.4 Description of the young baby boomer sample ...................................................... 98

4.5 Correlations between measures of risk tolerance .................................................. 106

5.1 Results of simultaneous equations models for education investment


and risky financial investment .............................................................................. 110

5.2 Results of simultaneous equations models for well-being in economic, physical,


and psychological dimensions (Model I: dependent variables- years of schooling
and ratio of risky financial assets to financial assets) ........................................... 126

5.3 Results of simultaneous equations models for well-being in economic, physical,


and psychological dimensions (Model II: dependent variables- years of schooling
and dollar amount of stocks (ln)) ........................................................................... 139

5.4 Summary of hypothesis testing results ................................................................. 151

xiv
LIST OF FIGURES

Figure Page

3.1 Concave, Risk-Averse Utility Function ................................................................... 56

3.2 Conceptual Framework Depicting Risk-Taking Behavior ...................................... 65

4.1 Sample Selection Process ........................................................................................ 77

4.2 Categories of Survey-Based Risk Tolerance ............................................................93

xv
CHAPTER 1

INTRODUCTION

1.1 Background

The estimated number of baby boomers was 78.2 million, standing for roughly

26% of the U.S. population in 2005 and 45% of whole working age adults based on

estimated population in 2000 (U.S. Census Bureau, 2007). Important financial issues

about baby boomers range from the ability to deal with current financial status to

retirement well-being (Baek & DeVaney, 2004) which may have a profound impact on

the U.S. economy and social security system as a whole. In view of the size and critical

role of baby boomers, it is of importance to explore risky investment decisions made by

baby boomers, particularly the younger cohort, to provide for a rainy day.

Investments in financial assets and human capital in the form of education are

both considered risky because individuals encounter a state of uncertainty where some of

the possibilities involve a potential loss or other undesirable outcome. Similar to financial

assets, investment in education gives investors the right to receive a stream of risky

dividend payments in the future (Saks & Shore, 2005), playing a critical role in evolution

of earnings, employment and economic growth, and aggregate wealth portfolio

1
(Christiansen, Joensen, & Nielsen, 2007). Education investment is also one of the largest

investments an individual makes in his/her life (Saks & Shore, 2005), with the value of

human capital assets being estimated to be three to four times the value of financial assets

(Becker, 1993). “While financial assets are concentrated in the portfolios of the few,

human capital assets are held by all individuals, and even large changes in the market

value of financial assets are unlikely to affect the human capital investment decisions of

most individuals (Christiansen et al., 2007).” According to Williams (1978), the problems

of choosing a level of education and a financial portfolio are generally not separable.

Brown and Taylor (2005) also argued that individuals make investment decisions with

respect to both human capital and financial assets. Since most people tend to invest in

human capital in the form of education when young (Bryant & Zick, 2006), it is

necessary to take into consideration the potential role of investment in education when

studying risky financial investment decision.

Theoretically, risk tolerance is a core factor in models of choice and decision,

determining financial asset allocation (Sahm, 2007; Guiso & Paiella, 2004) and human

capital accumulation (Brown, Ortiz, & Taylor, 2006; Hanna, Gutter, & Fan, 2001; Shaw,

1996). Individuals who have distinct risk tolerance act differently in terms of making

various investment decisions (Guiso & Paiella, 2004; Shaw, 1996) or possessing

portfolios with distinct levels of risk (McInish, Ramaswami, & Srivastava, 1993). For this

reason, to investigate the role of risk tolerance in jointly determining risky financial

investment and education investment and to examine whether education investment

affects risky financial investment are of particular interest.

2
Generally, a more risk tolerant investor who invests more in risky financial assets

and/or in education expects to earn higher returns to accumulate their wealth, increase

their future consumption, or advance their well-being in other dimensions. An empirical

examination that incorporates risk tolerance, risk-taking behavior, and well-being is

definitely needed to provide a comprehensive picture of risk-taking behavior decisions.

This chapter is organized as follows. The first section briefly describes the

definitions of risk and risk-taking behavior and delineates the baby boomer generation in

the U.S. The second and third sections lay out the problem statement and purpose of the

study. Last, significances and policy implications of the study are discussed.

1.1.1 Definitions of Risk

Individuals bear risks in all aspects of their lives because the outcome of a

decision can only be known in the future (Taylor, 1974) and there is a tendency that

actual results are different from what is expected (Magee & Bickelhaupt, 1964). Scholars

have disputed over the meanings of risk and uncertainty (Chavas, 2004). One school of

thought claims that risk and uncertainty are not equivalent, meaning that risk corresponds

to events that can be associated with given probabilities while uncertainty corresponds to

events for which probability assessments are not possible. It is indeed a challenge to

distinguish risk from uncertainty in reality due to unclear consensus about the existence

and interpretation of a probability. The other school of thought accordingly agrees that

risk and uncertainty are equal in meanings (Athearn, 1971) and that the term “risk” can

be used interchangeably with “uncertainty” in behavioral decision theory (Chavas, 2004;

3
Lopes, 1983; Taylor, 1974). In other words, risk exists whenever the outcomes of an

action are not assured (Yates & Stone, 1992) and risk is “measurable uncertainty (Knight,

1921)” or “effectively is uncertainty (Yates & Stone, 1992).” The current study is in line

with the later school of thought.

Definitions of risk are available in extant literature. Markowitz (1952) argued that

variance could be regarded as risk, which is the first type of mathematical definition of

risk for portfolio selection. Semi-variance and probability of an adverse outcome are the

other two best-known mathematical definitions of risk (Huang, 2008). A group of

scholars related risk to possibility of loss. In Denenberg, Eilers, Hoffman, Kline, Melone,

and Snider (1974), risk was “uncertainty of loss.” Greene (1962) defined risk as the

“uncertainty as to the occurrence of an economic loss.” Altogether, risk referred to

uncertainty regarding loss or undesirable outcome, with the possibility of loss being the

common theme (Rable, 1968). Potential loss here does not merely refer to an outcome

that will make individuals worse off compared to some reference status quo position. An

outcome that is not as good as some other outcomes that might have been obtained is

regarded as loss (MacCrimmon & Wehrung, 1986). It is possible that the second form of

loss, namely opportunity loss, can sometimes turn risk-free situations into risky ones

when unexpected events occur; thus, it is unwise to exclude opportunity loss when

discussing risk or uncertainty.

To summarize, risk is “any situation where some events are not known with

certainty (Chavas, 2004)”, with an emphasis on three fundamental factors (Sitkin & Pablo,

1992). First of all, risk is associated with outcome uncertainty such as the variability of

4
outcomes (Libby & Fishburn, 1977), absence of knowledge of the distribution of

potential outcomes (March, 1978), and disability to control over outcome attainment

(Vlek & Stallen, 1980). Second, risk can be applied to either positive or negative

outcomes because it is constituted based on the degree to which the expected outcomes

would be disappointing to a decision maker, rather than on the expected outcome itself

(Sitkin & Pablo, 1992). The existence of a gap between aspiration levels and the mean of

distribution of expected outcomes can make a positive outcome disappointing (Lopes,

1987; March & Shapira, 1987). Last, decision makers should perceive the potential

consequences of choices to be of sufficient magnitude to involve the potential

opportunity or threat inherent in the situation (Dutton & Duncan, 1987).

1.1.2 Risk-Taking Behavior

Decision-making behavior in risky contexts refers to risk-taking behavior which

may be characterized by the degree of risk associated with the decisions made (Sitkin &

Pablo, 1992). Decisions are considered riskier when expected outcomes are more

uncertain due to higher volatility, when it is more difficult to achieve decision goals, and

when the potential outcome set comprises some extreme consequence. Risk-taking is

essential to economic behavior (Moore, Evans, Brooks-Gunn, & Roth, 2001) because

individuals take greater risk or at least greater volatility in order to earn higher rates of

return (Hanna & Chen, 1997). This study models investment in risky financial assets,

where investment in education is endogenously determined. The rationale to model these

investment decisions simultaneously is that financial and human capital assets are risky

5
and critical in portfolio choice (Becker & Becker, 1997; Schooley & Worden, 1996) and

are both determined by individual risk tolerance.

Investment in Risky Financial Assets

Individuals hold financial assets in the form of generally risk-free assets, risky

assets, or both, with risky assets being an asset that provides an uncertain nominal cash

flow (Wang & Hanna, 1997). Individuals take more or less risks to acquire considerable

returns. In light of Morningstar (2007), the rate of return for long-term corporate bonds

was 3.2% with its standard deviation of 9.6% and the rate of return for large company

stocks was 9.1% with its standard deviation of 20.2%, in line with the observation that

people choose risky options only if these options offered higher expected returns

(Sokolowska & Pohorille, 2000) and with the finding that stocks should account for a

considerable proportion of portfolios for many households (Campbell & Viceira, 2002).

In addition to earning higher rates of returns, individuals may hold risky financial

assets due to the movement from defined benefit pension plans to defined contribution

pension plans such as Individual Retirement Accounts (IRAs) and 401(k) plans in recent

years (Hanna & Chen, 1997). In defined contribution pension plans, participants are

forced to make asset allocation decisions, to endure investment risks, and to enjoy the

rewards or carry the loss by themselves. Participants have a say in the amount they

choose to save. They, to a large degree, are also responsible for selecting the types of

investment ranging from pre-determined mutual funds to individual stocks or other

securities that involve different levels of risks. Empirical evidence showed that defined

6
benefit plan participants were less likely while defined contribution plan participants

were more likely to participate in stock market (Curcuru, Heaton, & Lucas, 2007).

In terms of the 2001 Survey of Consumer Finances (SCF), for the average

household, 15.8% of total financial wealth was allocated on stocks, 7.6% on bonds,

24.4% on cash, 41.3% on housing, and 4.8% on other real estate (Curcuru et al., 2007). A

substantial proportion of financial wealth was held in retirement accounts, which means

that 52% of households participated in defined contribution tax deferred retirement

account, accounting for 13.4% of the financial assets of the U.S. households. Defined

contribution plans have grown from 35% of the market in 1990 to roughly 45% in 2002,

with remaining share being attributable to annunities. The 2001 SCF data also revealed a

considerable heterogeneity in portfolio allocations at an individual level (Curcuru, et al.,

2007). “The extent to which risky asset holdings are diversified also varies greatly

(Curcuru et al., 2007).” Even if stock holdings as a percentage of wealth has increased

from 1989 to 2001 and participation rates in stock market increased in the 1990s, non-

participation rate remained high. The majority of households did not hold risky assets and

wealth as well as stock holdings were highly concentrated among the wealthy. The mean

and median values of ratio of risky assets to net wealth in 1989 were 6% and 1%,

respectively, and merely 25% of households had a value of 6% or higher (Wang & Hanna,

1997). Interestingly, people started buying stocks at a younger age than in the past,

implying a cohort effect that may explain trends in stock market participation. Moreover,

changes in risk tolerance or expected returns, reductions in background risk, and a fall in

participation costs contributed to increasing stock market participation (Curcuru et al.).

7
Investment in Education

Human capital in the form of education is deemed an asset (Moore et al., 2001)

and investment in education is considered a risky one (Brown & Taylor, 2006; Schooley

& Worden, 1996; Becker, 1993). Rational persons invest in education only if the

expected rate of return were greater than the sum of the interest rate on relatively risk-

free assets and the liquidity and risk premiums associated with the investment (Becker,

1975). The reason to include positive liquidity premiums is that human capital assets in

the form of education are assets with less liquidity because they cannot be sold or served

as a collateral for a loan while physical assets such as housing can be used as a pledge for

a mortgage. Risk premiums are included due to the existence of substantial uncertainty.

For example, college students who are relatively young do not save enough for a down

payment, resulting in borrowing more money and consequently paying more interests

with unknown interest rate in the future. Students may face a risk of failure if they find

educational programs more difficult than expected (Guiso & Paiella, 2004) or discover

the lack of the necessary ability or the quality of schooling (Guiso & Paiella, 2004),

particularly since it is young people who do most of the investing. Investors are unsure

about the length of their life, the market value of the degree at time of completion (Guiso

& Paiella, 2004), the return on education investment (Kodde, 1986), and the timing of

job-offerings after one finishes the desired level of education (Kodde, 1986). Moreover,

the return to a person at a given age and with certain ability is uncertain due to other

unpredictable events (Levhari & Weiss, 1974). Risks with respect to investment in

education may vary across occupations and industries (Schooley & Worden, 1996).

8
Diversification used to reduce financial risks is not often available to reduce the degree of

risk associated with education investment (Brown, Ortiz, et al., 2006).

Future earnings uncertainty is one of the most important reasons that education

investment is risky (Belzil & Leonardi, 2007). The UK Labour Force Survey showed that

the estimated return on schooling was about 4% for males, with an estimated dispersion

of 4%. For females, the mean return was 7% with a dispersion of 3.3%. The figures were

in line with those in studies that used the U.S. samples. Koop and Tobias (2002) found a

mean return of 12% with a deviation of 7% using the National Longitudinal Survey of

Youth 1979. Even if the mean return on education remained constant, the variance of

returns has been found to change over time (Harmon, Hogan, & Walker, 2003).

According to the U.S. Census Bureau (2006), roughly 27% of the U.S. population

three years old and over was enrolled in school in 2006. Among students in school,

around 23% were enrolled in college, graduate school or professional school, exclusive of

those who took private lessons. In terms of school expenditure, US devoted 7.6% of its

gross domestic product to schools and schooling in the 2003-04 school year, with $317

billion going to colleges and universities (U.S. Department of Education, 2007). Note that

the figures did not even include potential income students chose not to earn due to the

enrollment in schools. Investing in education, particularly in college education, is

expensive. In addition to tuition and fees, the expenditures on room, board, and travel are

substantial and the forgone earnings are sizable. The costs of going to college are even a

heavier burden if one chooses to go to private colleges or universities (Becker & Becker,

1997). In the past, the cost of higher education was not a noticeable issue because merely

9
children from wealthy families could go to college. To date, more than half of high

school graduates continued their education into college. Among the high school graduates

who went to college, roughly 20% were Blacks, Hispanics, and other minorities who

were economically disadvantaged. It deserves to be mentioned that college tuition and

fees have almost doubled since 1980 (Becker & Becker, 1997).

1.1.3 Baby Boomer Generation in the U.S.

Baby boomer is a demographic term indicating individuals who were born

between 1946 and 1964 (U.S. Census Bureau, 2007). The estimated number of baby

boomers was 78.2 million as of 2005, accounting for roughly 26% of the U.S. population.

The percentage of women among the baby boomers was slightly higher than that of men

in 2005. Roughly 9.1 million and 8.0 million were Blacks and Hispanics in 2004,

respectively. The member of this demographic group age from 44 to 62 in 2008, meaning

this demographic behemoth will start leaving the workforce in roughly three years with

the assumption of retirement age of 65.

Baby boomers are the foundation of the U.S. population, playing multiple critical

roles. First, boomers accounted for roughly 45% of the whole working age adults based

on 2000 estimated population, making significant contributions to the U.S. economy. The

increasing number of boomers was considered an indicator of economic prosperity in

terms of purchasing power in marketplace. Since people live longer because of medical

advancement and younger people seek better and longer education, boomers feel more

responsibilities for taking care of their elderly parents and raising young children,

10
struggling with all of the issues associated with being sandwiched between generations

and having difficulty managing their time and money. The responsibilities become even

heavier as their offspring start their own families. Notice that boomers have a higher

divorce rate than prior generations and that the percentage of boomers who never married

is significantly higher than prior generations, meaning that these boomers independently

take these responsibilities. Baby boomers themselves may stop accumulating monetary

and non-monetary wealth due to aging and retirement. Health depreciates with age,

making it inevitable that baby boomers must bear heavier financial load with respect to

increasing medical or health care expenditures. In virtue of the critical role baby boomers

play inside and outside of their families, their decision making under risk deserves more

attention. Conservative baby boomers possess more relatively risk-free assets and are less

likely to accumulate wealth in a short time period while boomers who invest in risky

financial assets accumulate wealth rapidly and lead an easy life. The U.S. Census Bureau

(2000) showed that the majority of boomers completed high school and 29% had a

Bachelor’s degree or more, making themselves the most educated generation with a clear

understanding that higher education level helps find a well-paid job and lead a fulfilling

lifestyle. Some boomers even returned to college for the purposes of prolonging

employability and other personal reasons.

While the baby boomers share common historic events and life experiences, there

is dissimilarity in terms of age cohorts. In Zagorsky (1997) and Yamokoski and Keister

(2006), individuals born between 1957 and 1964 were defined as young baby boomers.

Compared to their older counterparts, young baby boomers had slightly higher estimated

11
spending power while they had lower annual average household income and lower annual

average spending (U.S. Census Bureau, 2000). The household size of young boomers was

larger than that of old boomers; however, young boomers had a smaller average number

of earners per household. Although the poverty rate for boomers as a whole has

significantly declined, young boomers had a higher percentage in poverty than old

boomers. Moreover, most young baby boomers accumulated their wealth slowly and

steadily in a more traditional way (Zagorsky, 1999). For example, young boomers

increased their net wealth by mere $2,394 annually and 13% of them even did not have

any wealth or were in debt in their 30’s. The portfolio allocation pattern of young

boomers also changed over time. As the young boomers aged, they held more liquid

assets, implying their willingness to convert more liquid assets into cash as they

encounter financial emergencies.

1.2 Problem Statement

Because everyone is inevitably involved in making choices under risk, risk-taking

behavior has been intensely studied in past decades, focusing on such determinants as

demographic and socioeconomic characteristics and personality traits (Weber, 2003).

Following the proposition of Sitkin and Pablo (1992) that risky behavior of an individual

is consistent with his/her risk propensities based on a conceptual model, where risk

propensity was defined as the tendency of an individual either to take or to avoid risks,

risk tolerance was found to be a powerful predictor of a vast array of risky choices

(Spivey, 2007; Sahm, 2007; Kimball, Sahm, & Shapiro, 2005; Guiso & Paiella, 2004).

12
Unfortunately, the fact that willingness to bear risks is not normally observable (Guiso &

Paiella, 2004) prevents it from attracting significant attention from empirical studies

(Brown, Ortiz, et al., 2006).

Among existing studies, much stress has laid on how risks are treated in

hypothetical choices while very little seems to be known about whether the elicited risk

responses to hypothetical choices connect with risk-taking behavior in the real world

(Wärneryd, 1996). Even if Kimball et al. (2005) emphasized the role of risk tolerance in

economic theory to explain risky behavior, few surveys attempt direct measures,

exclusive of the Survey of Consumer Finances (SCF), the Panel Study of Income

Dynamics (PSID), and the Health and Retirement Study (HRS). However, the SCF

financial risk question may not be a good proxy for true risk tolerance (Chen & Finke,

1996) and not necessarily express one’s pure preference (Hanna & Chen, 1997). The

PSID and the HRS ask a set of income risk questions to locate risk tolerance while the

PSID surveys a much smaller sample of wealthy households and the HRS merely studies

Americans over the age of 50. Apparently, an unequal weight has been placed on rich or

older adults, leaving young baby boomers an unknown about their risk preference.

Risky investment decisions in different domain may affect each other. Decisions

made in each life stage can relate to one another. Extensive attention, however, has been

paid to one particular risk-taking behavior with respect to risk tolerance. One current

exception is Dohmen, Falk, Huffman, Sunde, Schupp, and Wagner (2005), who adopted a

series of risk questions in the 2004 German Socioeconomic Panel and concluded that the

average willingness to take risk is different across domains, although risk parameters

13
across domains were associated with one another. Another exception is MacCrimmon

and Wehrung (1990), who found that managers had different levels of risk tolerance

when making decisions with respect to personal and company money and to financial and

recreational risks. Even though investments in risky financial assets and human capital

assets are associated with much risk and affect optimal portfolio formation, economists

analyzed financial investment or human capital investment in isolation of one another

(Brown, Garino, & Taylor, 2006) and the later has drawn relatively less attention in risk

literature (Shaw, 1996; Kodde, 1986). Only a few publications have discussed both

investment decisions jointly in theory and in practice (e.g. Shaw, 1996).

A wealth of literature has individually explored the relationship of risk tolerance

with risk-taking behavior and with economic well-being (e.g. Guiso & Paiella, 2004;

McInish et al., 1993). There are abundant publications on examining the relationship

between risk-taking behavior and individual well-being. Unfortunately, little effort has

been made to connect risk tolerance with both risk-taking behavior and individual well-

being. Even if McInish et al. argued that more risk-averse investors should hold less risky

portfolios, which would, in turn, result in lower level of wealth, risk-taking behavior is

not explicitly incorporated in their model. In line with Guiso and Paiella that risk-averse

individuals were significantly less wealthy than their less risk-averse counterparts, a

study on whether risk-taking behavior is the bridge that connects risk tolerance and well-

being is needed to fill the research void. Comprehensive measures of well-being are also

needed to compare the effects of risk-taking behavior on well-being in each dimension.

14
1.3 Purpose of the Study

Literally, young baby boomers bear responsibilities similar to old baby boomers

and are at the life stage of accumulating their wealth and health. The lack of empirical

evidence for a theoretical model of choices under risk with respect to risk tolerance for

young baby boomers motivates the research. The unique characteristics of the National

Longitudinal Survey of Youth 1979 makes it possible to track changes in risk tolerance of

young baby boomers by taking advantage of a set of former illegal activity participation

questions and a sequence of hypothetical income risk questions.

The current study also attempts to provide an empirical framework based on

economic models for making risky financial investment decisions with respect to risk

tolerance, where education investment is endogenously determined within the model.

This study first examines whether risk tolerance derived using different methods is a

candidate for predicting investment decisions on risky financial assets and education or

risk tolerance exerts its impact on risky financial investments via education investment.

The impacts of risky investment decisions on well-being in each dimension are then

investigated. Mainly, the purpose of the current study is to portray a comprehensive

picture for risky financial investment, comprising both its determinants and consequences.

Given that the findings in previous research necessarily provided a somewhat

piecemeal and disjointed view, the current study makes an effort to connect the pieces.

Specifically, the current study intends to answer the following questions:

1. Does risk tolerance increase or decrease investment in human capital assets in the form

of education?

15
2. Does risk tolerance increase or decrease investment in risky financial assets?

3. Does investment in human capital assets in the form of education increase or decrease

investment in risky financial assets?

4. Does investment in human capital assets in the form of education increase or decrease

individual well-being?

5. Does investment in risky financial assets increase or decrease individual well-being?

1.4 Significance of the Study

The current study contributes to this merging literature by using a large,

nationally representative sample to simultaneously model investment-related decisions

that individuals must make with respect to risk involved and individual well-being.

Theoretically, this study employs economic theories to model risky behavior of young

baby boomers in the financial market, to identify predictive powers of risk tolerance

derived from illegal activity participation and hypothetical income risk questions, and to

incorporate the potential impact of education investment decision. In turn, this study

examines the effects of risky investments on individual well-being. A more exclusive

understanding of well-being of young boomers is achieved by using multiple indicators

of well-being in different dimensions. In light of policy perspective, this study is crucial

for understanding factors that influence investment-related risk-taking behavior and

individual well-being. Whether or not risk tolerance explains the discrepancy in risk-

taking behavior among young boomers is important for policy makers and has a

significant implication for accumulation of well-being that requires long-term planning.

16
An important objective of this study is to examine whether risk tolerance

measured by different methods and/or in different years is consistently a powerful

predictor of risky behavior. Estimates of coefficients obtained will provide useful

information for educational and financial policy decisions. Additionally, influence of

risk-taking behavior on well-being provides insights into the effects of risky investment

decisions. Estimates of coefficients obtained will make suggestions to policy makers to

implement suitable educational and financial programs to improve individual well-being.

1.5 Outline of the Study

The current study begins with a review of literature on risk tolerance and risky

investments in different domains. Well-being measures and their distinct relationship

with risk tolerance and risk-taking behavior are discussed as well. A theoretical model of

investment-related risk-taking behavior is developed and hypotheses are presented in

Chapter 3. Data, methodology, and empirical specification of the theoretical model are

presented in Chapter 4. Measurement of variables and descriptive statistics of the sample

are also presented in this chapter. Chapter 5 encompasses presentation and discussion of

empirical results. Conclusions and implications of this study are presented in Chapter 6.

17
CHAPTER 2

REVIEW OF LITERATURE

This chapter reviews theoretical and empirical literature on risk tolerance,

investments in risky financial assets and education, and individual well-being. The

chapter is organized in five sections. The first section reviews literature on definitions

and measures of risk tolerance. The second and the third sections review publications of

investments in risky financial assets and education, respectively, focusing on their

respective determinants. In the fourth section, measures of well-being and the association

of well-being with risk tolerance and with risk-taking behavior are reviewed. The last

section reviews existing literature on examining risk tolerance, risk-taking behavior, and

well-being jointly.

2.1 Risk Tolerance

Risk tolerance refers to an individual’s willingness to take risks. Weber, Blais,

and Betz (2002) defined risk tolerance as “a person’s standing on the continuum from

risk aversion to risk seeking.” In Barsky, Juster, Kimball, and Shapiro (1997), risk

tolerance is the inverse of risk aversion, which was supported by other empirical studies

(e.g. Brown, Ortiz, et al., 2006; Faff, Mulino, & Chai, 2008). While risk aversion has

18
been commonly used in economic literature, risk tolerance is a financial planning concept

(Wang & Hanna, 1997) and it is the term that is mainly used by investment advisors

(Wang & Hanna, 2007). In the current study, risk tolerance and risk aversion are used

interchangeably and both definitions are presented.

2.1.1 Definitions of Risk Tolerance and Risk Aversion

Risk tolerance is considered one of the key components to effectively manage

investment in corporate and personal settings, determining a wide range of personal or

household financial decisions (Xiao, Alhabeeb, Hong, & Haynes, 2001) and affecting

one’s ability to achieve the desired financial goals (Wang & Hanna, 2007). Specifically,

financial risk tolerance plays a significant role in the difference in household portfolio

decision making (Hanna & Lindamood, 2004) and in the ownership of high-return assets

(Gutter & Fontes, 2006). One of the first definitions defined risk tolerance as willingness

of an individual to engage in a behavior in which there is a desirable goal with attainment

of the goal being uncertain (Kogan & Wallach, 1964). Namely, financial risk tolerance is

willingness to engage in “behaviors in which the outcomes remain uncertain” (Irwin,

1993) or maximum amount of volatility or uncertainty that one is willing to accept when

making financial decisions (Grable, 2000). Investor risk tolerance refers to maximum

amount of investment risk an individual was comfortable taking (Schaefer, 1978).

In light of Becker (1975) that “the response to uncertainty is determined by its

amount and nature and by tastes or attitudes”, risk aversion is one type of risk attitudes

individuals may have when making risky choices. Individuals are said to be risk-averse as

19
they prefer a sure thing to an alternative with uncertain outcome (Highhouse & Yüce,

1996). Two common measures of risk aversion such as absolute risk aversion (ARA) and

relative risk aversion (RRA) were derived independently by Arrow (1965) and Pratt

(1964). ARA refers to one’s reaction to uncertainty regarding absolute dollar gains or

losses, measuring changes in dollar allocated to risky assets when wealth increases

(Bajtelsmit, Bernasek, & Jianakoplos, 1999). RRA “reflects an individual’s reaction to

uncertainty in relation to gains and losses as a percentage of wealth (McInish et al.,

1993)”, which indicates changes in portfolio to risky assets when wealth increases

(Bajtelsmit et al., 1999).

2.1.2 Measures of Risk Tolerance

Even if risk tolerance is elusive and ambiguous (Ekelund, Johansson, Järvelin, &

Lichtermann, 2005) and there are few, if any, generally recognized measures or

instruments to capture risk tolerance (Grable & Lytton, 1999b), Xiao et al. (2001)

recommended using attitudes toward risk and risky-taking behavior to measure risk

tolerance. Hanna et al. (2001) suggested estimating investment risk tolerance via

observing actual investment choices, asking hypothetical questions with specified

scenarios, and using attitudinal measures. This sub-section summarizes widely-used

measures in existing literature.

Subjective Measures

There are few widely-accepted subjective measures designed to ascertain one’s

risk tolerance (Grable & Lytton, 1999b). One of the examples was from a financial diary

20
panel of upscale households. An index was created according to the ranks of the

following alternatives provided by respondents, with higher values indicating greater

levels of risk aversion (McInish et al., 1993):

“Consider only the following four investments and rank them in terms of your preference

for investing your next $5,000, from your most preferred (1) to least preferred (4). (1)

There is a slight chance (1 in 5) of some loss of principal, but the return is around 12

percent. (2) A speculative investment (3 in 5 chances of some loss of principal), but could

possibly yield a 30 percent return. (3) There is a somewhat higher chance (2 in 5) of

some loss of principal, but the return is around 16 percent. (4) The principal is assured

and offers a guaranteed return of approximately 8 percent annually.”

Grable and Lytton (1999b) suggested using subjective measures derived from

categorical responses without specifying the quantities to probe risk tolerance. For

instance, the SCF respondents choose one of the following categories that comes close to

the amount of financial risk that they are willing to take when saving or making

investments: (1) take substantial financial risks expecting to earn substantial return; (2)

take above average financial risks expecting to earn above average return; (3) take

average financial risks expecting to earn average return; and (4) not willing to take any

financial risks. Such a question as “how risk-tolerant are you” has its limitations on

probing risk tolerance. First, this measure does not necessarily reveal pure preferences

(Hanna & Chen, 1997), which means individuals who do not own any financial assets are

not in a position to take any risk while they may still choose category (1), (2), or (3).

Meanwhile, the question merely reflects a small part of the multi-dimension of risk. Note

21
that there is a big jump between categories (3) and (4), leaving category of “less-than-

average financial risks” absent in the options (Schooley & Worden, 1996). It is also likely

that people misstate their risk tolerance when answering questions (Grable & Lytton).

Instead of relying on one single item, MacCrimmon and Wehrung (1986)

suggested employing assessment instruments that include multi-dimensional financial

situations and scenarios in each specific domain. Mittra (1995), for example, presented

two questionnaires that relate to investor choices to measure risk tolerance. Grable and

Lytton (1999a) introduced a 20-item questionnaire, with higher score indicating more

financial risk tolerance. To balance multi-dimensionality and parsimony, Grable and

Lytton (1999b) conducted a principal components factor analysis based on the original 20

items and argued that a 13-item summative scale is more brief, non-redundant, and

interesting to complete. The results based on the questionnaire showed that more than

half of respondents had moderate risk tolerance and 27% and 13% of them had low and

high risk tolerance, respectively, which were consistent with previous results.

A common concern is that subjective measures are not linked rigorously to the

concept of risk tolerance in economic theories; thus, they merely reflect a combination of

current situation and limited information of individuals (Hanna et al., 2001).

Objective Measures

Sung and Hanna (1996) suggested using objective measures due to the difficulty

of assessing risk tolerance. The level of risk aversion/risk tolerance can be estimated

according to household behavior such as portfolio composition (Schooley & Worden,

22
1996) and ratio of risky assets to total wealth (Wang & Hanna, 1997), assuming that

more risk tolerant people own a greater amount of risky assets or a larger share of risky

assets. Risk aversion can also be inferred indirectly from singular behavioral consequence

such as an insurance purchase decision (Ekelund et al., 2005; Barsky et al., 1997).

Health-related risk-taking behavior is an alternative. For example, risk tolerance

was positively related to smoking and drinking (Barsky et al., 1997). In Hersch and

Viscusi (1990) and Hersch and Pickton (1995), non-smoking life style and seat-belt usage

were proxies for willingness to bear risk to explore wage-risk tradeoff, assuming that

non-smokers and seat-belt users reveal a high value of safety. Viscusi and Hersch (2001)

used cigarette smoking as a proxy for risk attitudes to predict the probability of smokers

to select jobs in higher risk industries.

Risk associated with drug dealing are so substantial that individuals who have

lower risk aversion are expected to be more likely to sell illegal drugs. For this reason,

Fairlie (2002) used being a drug dealer as a proxy for risk tolerance, entrepreneurial

ability, and a preference for autonomy. Results showed that former drug dealers were

more likely to be self-employed in later years than non-dealers after controlling for other

characteristics. Among drug dealers, those who sold drugs more frequently, who used

drugs less frequently, and who received income from drug selling as a youth were more

likely to be self-employed compared to other drug dealers.

Instead of observing one particular behavior, Bellante and Link (1981) measured

innate risk aversion by creating an index based on behavior in different domains: the

condition and insurance of automobiles owned, seat-belt usage, medical coverage, and

23
smoking and drinking behavior. The hypothesis that the risk-averse are more likely to

seek employment in public sectors was supported using the PSID data. Similarly,

Feinberg (1977) created an index of risk avoidance using the same data set. The

following items are included: the conditions of cars, whether having insurance on cars,

seat-belt usage, whether having medical insurance, cigarette smoking, and savings

available. The hypothesis that more risk-averse individuals will have a shorter expected

duration of unemployment was supported as well.

Objective measures may not be perfect. Financial risk tolerance in terms of actual

asset holdings pose serious validity problems due to unrealistic assumptions that an

investor has full information and can make rational choices based on his/her situation and

risk tolerance without advice from a third party (Friend & Blume, 1975; Wang & Hanna,

1997), making the results more descriptive, rather than predictive (Grable & Lytton,

1999b). Actual behavior may “not match economic models because most households

have very low levels of liquid assets and therefore can not hold high levels of risky asset

(Hanna et al., 2001).” Objective measures also fail to account for multi-dimensional

nature of risk or to explain actual investment behavior. Investors may not fully

understand the meaning of risk when making decisions (Schooley & Worden, 1996) or

may have different expectations of returns (Sahm, 2007); thus, the proxies fail to capture

actual risk tolerance. The created index may reflect one’s ability to tolerate risk rather

than the propensity to tolerate it (Bellante & Link, 1981). It is also possible that investors

do not always invest in ways that match their true underlying risk tolerance. Individuals

may decide to sell illegal drugs due to reasons irrelevant to risk tolerance (Fairlie, 2002).

24
Hypothetical Questions

Risk tolerance can be captured by hypothetical questions with carefully specified

scenarios (Schooley & Worden, 1996). Generally, hypothetical questions should involve

lifetime income rather than spending or consumption to reduce the possibility of

misunderstanding (Barsky et al., 1997), reflecting “a compromise between conceptual

accuracy and respondent comprehension (Sahm, 2007).” In addition, hypothetical

questions should cover probability of gains and loss and dollar amount of potential gains

and loss because individuals make risky financial decisions based on all of these

components (MacCrimmon & Wehrung, 1986). One criticism for studies that used

hypothetical questions is that they recruited college students who are less likely to face

actual financial risk or convenient samples which may not be a nationally representative

sample, leaving findings not generalizable to broader populations. Fortunately, nationally

representative surveys have recently incorporated these questions into the questionnaires.

The HRS data, for instance, has being asking a series of income risk questions to

construct measures of the Arrow-Pratt concept of risk aversion since 1992. Respondents

first chose between their current certain job and a new, risky job that provided them with

two uncertain outcomes of equal chances, either doubling lifetime income or cutting it by

a specific portion, so-called downside risk. The measure was refined via a sequence of

questions with different downside risks (Kimball et al., 2005). Aware of the potential for

a status quo bias due to question wording that makes individuals have an aversion to a

new job irrelevant to its income risk, the 1998 HRS revised the questions according to

Barsky et al. (1997) so that individuals made choices between two new jobs. Another

25
nationally representative survey, the National Longitudinal Survey of Youth 1979

(NLSY79), included hypothetical income risk questions with three different downside

risks in 1993. Generally, respondents are classified into two or four mutually exclusive

categories according to their responses to two of the three questions (See Table 2.1).

Comparatively, financial risk tolerance derived from hypothetical questions is a

better proxy to predict future financial behavior due to practical and theoretical

considerations (Yao, Gutter, & Hanna, 2005). First of all, it is not possible to derive risk

tolerance through actual portfolio allocations for those who have no portfolio to allocate

while risk tolerance of those who do not possess any financial assets can be captured by

their responses to hypothetical questions (Yao, Hanna, & Lindamood, 2004). Individuals

may change their actual portfolio allocations due to factors unrelated to risk tolerance;

thus, “observations of how people deal with risks in real life have cast some doubts on

the preference of risk aversion (Wärneryd, 1996).” Additionally, risk tolerance derived

from hypothetical questions has been connected with the theoretical concept of RRA in

the expected utility model (Grable, 2008; Hanna et al., 2001). Note that this method also

has its limitations. Some respondents may answer questions without understanding the

meanings of the questions or value their job based on reasons other than a pecuniary one

and hesitate to leave it despite the large expected increase in income. It is possible that

responses to hypothetical questions do not correspond to decision making in reality

(Dohmen et al., 2005; Spivey, 2007).

26
Author (s) Measurements
Chen (2003) - Highly risk-averse (46%):
respondents who declined the best two offers
- Not highly risk-averse (54%):
all others that are not classified as highly risk-averse

Zagorsky (2004) - Liking risk:


if respondent answered no to the first offer
- Not liking risk:
if respondent answered yes to the first offer

Amuedo- - Risk-averse:
Dorantes & Pozo if respondent answered no to both of the first and the third offers
(2002) - Low risk loving:
if respondent answered no to the first offer and yes to the third one
- Moderate risk loving:
if respondent answered yes to the first offer and no to the second one
- High risk loving:
if a respondent answered yes to both the first and the second offers

Spivey (2007) - Very strongly risk-averse (46%):


respondents who refused the first and the third offers
- Strongly risk-averse (12%):
respondents who refused the first but accepted the third offer
- Moderately risk-averse (17%):
respondents who accepted the first but rejected the second offer
- Weakly risk-averse (25%):
respondents who accepted both offers in the first and second gambles

Table 2.1 Measurements of Risk Tolerance in Previous Studies Using the NLSY79

27
2.2 Determinants of Investment in Risky Financial Assets

Extent literature has provided evidence for heterogeneity in portfolio ownership

and allocation and concluded that variables such as the presence of non-diversifiable

background risks, demographic characteristics, information asymmetries, and transaction

costs are significant factors in explaining these differences (e.g. Curcuru et al., 2007).

The current study emphasizes the roles of risk tolerance and demographic and financial

characteristics in risky financial investments in terms of the purpose of this research.

2.2.1 Effects of Risk Tolerance on Investment in Risky Financial Assets

Standard portfolio theory suggests that all the differences in observed portfolio

composition across individuals should reflect differences in risk preferences (Guiso &

Paiella, 2004), implying that the more risk-averse would prefer a safer portfolio given the

return and riskness of risky assets.

A wealth of study has extensively explored the relationship between risk tolerance

and asset allocation theoretically (Arrow, 1965; Pratt, 1964) and empirically (Siegel &

Hoban, 1982, 1991; Friend & Blume, 1975) using different data sets. First, using the

HRS data set, Sahm (2007) showed a significantly positive relationship between risk

tolerance and stocks holding and Hariharan, Chapman, and Domian (2000) argued that

risk-tolerant individuals were more likely to hold a larger proportion of risky assets. That

risk aversion is a predictor of actual risky choices was demonstrated by using the SCF

data (Wang & Hanna, 2007). In Schooley and Worden (1996), respondents who were not

willing to take any risk had the lowest mean ratio of risky assets to wealth. Compared to

28
those who were not willing to take any risk, respondents who were willing to take

substantial financial risk had higher ratio of risky asset to wealth, showing that RRA

measured by asset allocation was related to that captured by responses to the SCF

question. Gutter and Fontes (2006) concluded that respondents who were unwilling to

take any risk were less likely to hold risky assets compared to those who were willing to

take average financial risk. Respondents who were willing to take above average risk

were more likely to hold risky assets than those who were willing to take average risk.

Wang and Hanna (2007) found similar result to Gutter and Fontes’ while the difference in

stock holdings was not found between those who were willing to take substantial

financial risk and those who were willing to take above average financial risk. That there

was no steady increase in stock ownership as the level of financial risk tolerance

increases may attribute to the peculiarity of the SCF question. Results in terms of foreign

data were also in line with those using the US data (e.g. Guiso & Paiella, 2004; Arrondel

& Calvo-Pardo, 2002). Notice that Barsky et al. (1997) found a much weaker relationship

between risk tolerance and risky asset holding than theory suggested it should be.

2.2.2 Effects of Financial Characteristics on Investment in Risky Financial Assets

The amount of financial resources was associated with portfolio allocations

(Gutter & Fontes, 2006; Barsky et al., 1997). Generally, net family income is included to

account for risk and portfolio choice differences among income strata assuming that

higher total income allows individuals to diversify their investments. Inherited wealth is

taken into account because “intergenerational transfers account for the vast majority of

29
aggregate U.S. capital formation (Kotlikoff & Summers, 1981).”

As what expected, income was positively related to the likelihood of owning risky

assets (Gutter & Fontes, 2006; Gutter, Fox, & Montalto, 1999). The level of portfolio

allocated to risky assets increased with income (Zhong & Xiao, 1995). Consistent results

can be found in Gutter et al. (1999). Specifically, income had a positive impact on stock

ownership until age 45 and the positive relationship became negative after age 45 (Wang

& Hanna, 2007). The difference in portfolio composition was also associated with net

worth (Gittleman & Wolff, 2004). In McInish et al. (1993) and Cohn, Lewellen, Lease,

and Schlarbaum (1975), wealthy investors held a larger proportion of risky assets.

Individuals who had higher net worth were more likely to invest in the stock market

(Gutter & Fontes, 2006; Hong, Kubik, & Stein, 2004; Xiao et al., 2001) or have a higher

level of risky asset ownership (Gutter & Fontes, 2006; Hong et al., 2004; Hariharan, et al.,

2000; Haliassos & Bertaut, 1995), consistent with Coleman’s (2003) finding that equity

allocation was positively associated with net worth.

In addition to income and net worth, other types of financial resources play

different roles in determining risky financial investments. In Gutter and Fontes (2006),

individuals who were eligible for an employer-sponsored retirement plan were less likely

to hold risky assets. Defined benefit plan participants were less likely while defined

contribution plan participants were more likely to participate in stock market (Curcuru et

al., 2007). In Schooley and Worden (1996), individuals who expected to have less

adequate retirement income or zero value of human capital were more likely to hold risky

assets. Home ownership had a positive impact on stock holding in Wang and Hanna

30
(2007); however, home ownership effect was negative in Xiao et al. (2001). Similarly,

Curcuru et al. (2007) found that the probability of stock ownership was negatively related

to home equity/net worth, home value, and mortgage scaled by total financial wealth.

Moreover, individuals who expected to have inheritance tended to have a higher level of

portfolio allocation to risky assets (Wang & Hanna, 1997). Those who desired to leave an

inheritance also had a higher ratio of risky assets to wealth (e.g. Hariharan et al., 2000;

Schooley & Worden, 1996; Siegel & Hoban, 1991). Last, households that had financial

assets exceeding one month’s income held more stocks (Wang & Hanna, 2007).

Households with three month income worth of liquid financial assets were more likely to

hold risky assets while they were less likely to have a higher level of risky asset

ownership (Gutter & Fontes, 2006).

2.2.3 Effects of Demographic Characteristics on Investment in Risky Financial

Assets

Demographic characteristics associated with one’s tastes and preferences were

examined extensively in terms of their influence on risky financial decisions. Previous

studies, however, did not demonstrate a consistent relationship between age and risky

asset holdings. In Curcuru et al. (2007), the probability of stock ownership was

negatively related to age. Coleman (2003) also found a negative relationship between age

and the level of portfolio allocation to risky assets. Contrary to these findings, Bertaut

(1998) and Zhong and Xiao (1995) found a positive relationship between age and the

probability of holding stocks. Specifically, McInish et al. (1993) indicated that investors

31
aged 45 to 54 held the highest proportion of risky assets. Those who aged under 45 held

the highest proportion of non-risky assets. In line with McInish et al., Guiso and Paiella

(2004) showed that older respondents were more likely to own risky assets and had a

larger share of risky assets. Non-linear relationship of age with risky financial investment

was found in literature. For instance, the ratio of risky assets to net worth and the

probability of stock ownership increased with age at a diminishing rate (e.g. Wang &

Hanna, 1997; Gutter et al., 1999). In Wang and Hanna (2007), there was a positive

relationship between age and stock ownership for those who aged 45 or younger and a

negative relationship for those who aged over 45. Kimball et al. (2005), however, found

an insignificant relationship between age and share of financial wealth in stocks.

Gender is associated with portfolio choices. Males generally had more aggressive

portfolios (e.g. Guiso & Paiella, 2004; Jianakoplos & Bernasek, 1998) or allocated higher

proportions of their portfolios to risky assets than females (Guiso & Paiella, 2004;

Coleman, 2003; Bernasek & Shwiff, 2001). Consistently, females were more likely to

hold relatively risk-free assets such as Treasury Bills (Hariharan et al., 2000).

In terms of race and ethnicity, Stevenson and Plath (2002) indicated that Blacks

were less likely to invest in risky assets. Sahm (2007) found that African Americans and

Hispanics were much less likely to own stocks than Whites. In other studies, including

Hong et al. (2004), Mabry (1999), and Loury (1998), Blacks invested less in the stock

market compared to their Whites counterparts. Consistent conclusions were reached by

Wang and Hanna (2007) that Whites were more likely to hold stocks and by Xiao et al.

(2001) that Whites were more likely to have a higher ratio of risky assets. Conversely,

32
Schooley and Worden (1996) argued that non-Whites had a higher ratio of risky assets to

wealth than Whites. Gutter and Fontes (2006) did not find a significant race effect on

portfolio allocation and Siegel and Hoban (1991) indicated that race was not a significant

determinant of risky asset holding when controlling for other variables. Note that race

may interact with other variables to affect the likelihood of holding risky assets (Gutter &

Fontes, 2006). For instance, presence of children in household increased the probability

of holding risky assets for both White and Black households, with being Blacks having a

larger effect. This finding was consistent with Gutter et al. (1999), who argued that

presence of children had a positive effect on holding risky assets merely for Blacks.

Marital status can affect investment in risky financial assets. Gutter and Fontes

(2006), for example, found that non-married households were less likely to hold risky

assets than married ones, implying the ability of sharing risk between husband and wife.

Similarly, Wang and Hanna (2007) showed that non-couple households were less likely

to have stocks compared to married households. Hariharan et al. (2000) presented that

married males were less likely to invest in relatively risk-free assets such as Treasury

Bills than their single female counterparts. On the contrary, Sahm (2007) found that

being married was associated with lower rate of stock ownership without controlling for

risk tolerance while the relationship was insignificant after controlling for risk tolerance.

The impact of household size was found to be inconsistent across previous works.

In Gutter and Fontes (2006), household size was negatively related to risky asset

ownership, implying the need for liquidity for current consumption. Jianakoplos and

Bernasek (1998), who included presence of children, grandchildren, younger brothers or

33
sisters, nieces, nephews, and other young people who may be dependents in household,

indicated that the impact of household size on proportion of risky assets varied depending

on marital status and gender. As the number of young dependents in household increased,

single females held a smaller proportion of risky assets while married couples tended to

hold a larger proportion of risky assets. Presence of young dependents, however, did not

affect single males in determining proportion of risky assets. The insignificant effect of

household size was also found in Xiao et al. (2001).

Occupational choice and working status can influence one’s risky financial

investment. In Schooley and Worden (1996), full-time wage earners held a significantly

higher ratio of risky assets to wealth. Xiao et al. (2001) noted that business owning

households were more likely to have higher risky asset ratios than their non-owner

counterparts. Wang and Hanna (2007) showed that non-manager business owners were

more likely to possess stocks than manager owners and non-business owners after

controlling for other variables. Being unemployed had a negative effect on the probability

of holding risky assets, with being Black even having a larger negative effect (Gutter &

Fontes, 2006). Additionally, an older household whose head was retired or not in the

labor force had a relatively lower ratio of risky assets to wealth compared to those in their

family formation years (Schooley & Worden, 1996).

Education level was consistently positively associated with stock ownership or

other risky financial asset holdings in literature (e.g. Wang & Hanna, 2007; Sahm, 2007;

Gutter & Fontes, 2006; Kimball et al., 2005; Hong et al., 2004; Coleman, 2003; Gutter et

al., 1999), reflecting that education enables individuals to have more knowledge and

34
access to the financial market (Gutter & Fontes, 2006). Specifically, Guiso and Paiella

(2004) indicated that education attainment in terms of a high school diploma and a

university degree was positively associated with risky asset ownership and with a share

of risky assets. In Hariharan et al. (2000), the educated were more likely to allocate their

wealth to risky assets. Interestingly, individuals who had a professional degree or a Ph.D.

degree had a smaller percentage allocation of the defined contribution pension to stocks

than those with a B.A. or M.A. degree (Bernasek & Shwiff, 2001), which conflicts with

previous findings.

2.3 Determinants of Investment in Education

Analogous to risky financial investment, the current study summarizes the

determinants of education investment in literature focusing on factors such as risk

tolerance, personal characteristics, and family background.

2.3.1 Effects of Risk Tolerance on Investment in Education

Given risk regarding education investment, it is of particular importance to

examine the role of risk tolerance in determining human capital accumulation (Brown,

Ortiz, et al., 2006). Unfortunately, while examinations into the relationship between risk

tolerance and investment behavior have been conducted extensively in financial

economics, the association of risk tolerance with human capital investment in the form of

education did not earn equivalent attention (Belzil & Leonardi, 2007). Among existing

literature, most research was more theoretical due to the difficulty in quantifying the

marginal risk of education, leaving empirical work rather scarce and inconclusive (Belzil

35
& Leonardi, 2007). Mainly, more risk tolerant individuals have greater education

attainment (Grable, 2000; Strube, 1991). Specifically, Shaw (1996) predicted an inverse

relationship between risk aversion and the level of education using the SCF data. Chen

(2003) found that risk aversion was negatively associated with college attendance using

the NLSY79 data. The effect of risk aversion was even stronger for non-African-

Americans and for those whose parents had lower education level. In Brown, Ortiz, et al.

(2006), education investment was positively related to risk tolerance and negatively

related to risk aversion. After controlling for other variables, Guiso and Paiella (2004)

indicated that the risk-averse invested less in education compared to their risk-loving and

risk-neutral counterparts. Among risk-averse respondents, those with higher degree of

risk aversion invested less in education than those with lower level of risk aversion.

Using Italian data, a moderate portion of the probability that one receives higher

education was explained by risk aversion after controlling for other variables (Belzil

&Leonardi, 2007). The impact of risk aversion on education investment was examined

indirectly by Brunello (2002), who used a sample of married Italian male household

heads to indicate that the selected years of schooling was negatively related to ARA and

that respondents with lower value of RISK were likely to have more years of schooling.

2.3.2 Effect of Personal Characteristics on Investment in Education

Young persons generally are inclined to overestimate their ability and the chance

of good fortune; thus, human capital investment that promises a higher return to a person

with ability and luck would be more attractive than a similar physical investment (Becker,

36
1975). In other words, younger persons had lower grade termination rates (Belzil &

Leonardi, 2007). Conversely, Guiso and Paiella (2004) found that older adults invested

more in education. Brown, Ortiz, et al. (2006) showed a non-linear relationship indicating

that age was positively and then negatively related to indices of years of completed

schooling and highest education attainment.

Gender was found to be a significant factor in predicting education investment

with and without controlling for risk aversion, showing that females invested more in

college education (Chen, 2003). Consistently, Belzil and Leonardi (2007) found that

females had lower grade termination rates. In Kodde (1986), males had a lower

probability of demanding for additional education in terms of pursuing an education after

finishing high school. The male-female difference in demand for education may be due to

taste effects or differences in risk aversion (Kodde, 1986). Note that Brown, Ortiz, et al.

(2006) inconsistently concluded that males were more likely to invest in education in

terms of years of completed schooling and highest education attainment.

Race and ethnicity was a significant determinant of investment in education as

well. Chen (2003), for example, showed that African-Americans were more likely to

invest in college education. The model that included the interaction term between risk

aversion and race indicated that race moderated the negative effect of risk aversion on

college attendance, implying that college attendance was even riskier for non-African-

Americans than for African Americans.

Personal ability affects one’s demand for education. Mainly, a more able person is

assumed to learn more than a less able person at a given level of educational expenditure,

37
resulting in a greater discrepancy in productivity, earnings, and rate of return. Following

the rationale, Kodde (1986) showed that scholastic abilities increased the probability of

demanding for additional education. The effect of ability score in mathematics even

dominated the effect of ability score in language in regard to education investment. In

Chen (2003), academic ability was associated with investment in college education

without controlling for risk aversion. Respondents who had higher academic ability were

more likely to go to college.

2.3.3 Effect of Family Background on Investment in Education

An individual’s demand for education depends on the opportunities provided to

the individuals. Individuals will have an opportunity to receive college education if their

parents are willing to supply them with a greater amount of financial backing or if their

parents went to college. The number and the gender of siblings and the birth order may

also affect the opportunity to receive education due to limited resources available. These

findings were generally consistent with Bowles (1972) that “the measures of family

background explained 52 percent of the variance of the years of schooling obtained”.

Following Bowles (1972), Graham (1981) conducted a theoretical study to

demonstrate a positive association between initial stock of non-human wealth and human

capital accumulation in the form of education, implying that persons with more financial

resources invested more in themselves. Kodde’s (1986) empirical research also predicted

a positive effect of parental income measured by net monthly family earnings on the

probability of demanding for additional education. Moreover, Acemoglu and Pischke

38
(2001) suggested a positive effect of family income on college enrollment. In Chen

(2003), family income has little impact on deciding to go to college because there are

missing observations of family income. In addition to family income, parental occupation

can explain education investment disparity. Brown, Ortiz, et al. (2006), for example,

found that respondents whose father’s occupational status was professional or managerial

and self-employed when they were growing up were more likely to invest in education.

Similarly, grade continuation was higher for those whose parents worked in a white collar

occupation (Belzil & Leonardi, 2007).

As for the effect of parental education on education investment, students whose

parents had more education had a higher probability of demanding for additional

education (Kodde, 1986). In Chen (2003), respondents whose parents had college

education were inclined to go to college. Taking into account the interaction effect of risk

aversion and parental education, parental education moderated the negative effect of risk

aversion on college attendance, implying that college attendance was even riskier for

those whose parents were less-educated. Guiso and Paiella (2004) showed a positive

effect of education level of the father of the household head on education investment of

the head. In Brown, Ortiz, et al. (2006), respondents whose father or mother had high

school and college education were more likely to invest in education. Put it in another

way, grade termination rate was lower for those whose parents received higher education

(Belzil & Leonardi, 2007). Interestingly, parental education was even more significant

than risk aversion in predicting schooling attainment. The potential reasons that risk

aversion does not play a substantially larger role are due to endogeneity of risk aversion

39
measure and measurement error. It is also because that the youth regard schooling as

insurance and that the marginal risk associated with higher education is small.

Regional variables such as whether a respondent lived in an urban area or whether

a respondent lived in the northeast, the west, and the south when young relate to the cost

of school attendance; therefore, in turn, explain the decision of college attendance (Chen,

2003; 2001). Using the Italian data, Belzil and Leonardi (2007) consistently indicated that

respondents living in the North of Italy which is the most economically developed region

in Italy obtained more schooling compared to their counterparts living in other areas.

2.4 Individual Well-Being

Well-being refers to “peoples’ positive evaluations and feelings about their lives”

(Diener & Seligman, 2004) or “the state of health, comfort, or happiness that results from

(among other things) the consumption of goods and services (Magrabi, Chung, Cha, &

Yang, 1991)”, which is a central concern in the U.S. today. This section reviews

measures of well-being in different dimensions and factors that may contribute to explain

the disparity of well-being among individuals.

2.4.1 Measures of Well-Being

Well-being is multi-dimensional and has been frequently differentiated into five

dimensions or domains: economic well-being, physical well-being, psychological and

emotional well-being, social well-being, and cognitive and educational well-being

(Thornton, 2001). This study mainly outlines the first three well-being measures

presented in existing literature.

40
Economic Well-Being

Economic well-being arising from the “utility” concept in consumer economic

theory is a key component of overall well-being (Osberg & Sharpe, 2002); however,

there is no single correct measure of economic well-being (Quinn, 1987). Bauman

(1999), for example, employed income, wealth, and poverty indices that provide basic

information about the population to measure individual well-being. Zedlewski (2000)

used employment, poverty, food affordability, and housing affordability. Thornton (2001)

focused on issues such as income, assets, employment, and living standard. Osberg and

Sharpe (2002) included consumption flows, stock accumulation, economic security, and

income distribution. In Park & DeVaney (2007), the authors summarized income, assets,

and debt as the most widely-used indicators of economic well-being.

In microeconomics, more choices refer to a higher quality of life because people

with choices can make decisions to maximize their well-being. According to Diener and

Seligman (2004), “because income correlates with number of choices, greater income is

equivalent to higher well-being”. In sum, income has been considered a primary indicator

of economic well-being (Park & DeVaney, 2007). Income is also a good proxy for

material welfare, providing valuable insights into financial stability of a household (Hong

& Swanson, 1995). Low-income households encounter difficulty meeting basic needs;

thus, have lower level of well-being. Particularly, current earned income is a personal-

level measure of well-being. Total family income that includes all forms of earned and

unearned income such as earnings, dividends, interests, rent, capital gains, gifts, social

security, and other transfer payments is a household-level measure (Mullis, 1992). In line

41
with life-cycle income hypothesis, Mullis created a life-time proxy by averaging the sum

of current income in terms of wages, salaries, dividends, interests, and transfer and

pension payments during a period of seven years. Wealth which is mainly measured by

net worth is a critical component of well-being, particularly during retirement (Keister &

Moller, 2000), representing potential consumption for the rest of an individual’s life (Lee

& Hanna, 1995) and economic security for individuals (Keister & Moller, 2000). Some

scholars suggested including human wealth as a part of total wealth (e.g. Lee & Hanna,

1995; Friend & Blume, 1975). Human wealth, the present value of non-investment

income, may be measured either by the value of labor income to the age at which a

respondent expects to retire and the values of social security income, pension income,

and transfer payments (Friend & Blume, 1975) or by the present value of future earnings

(Graham & Webb, 1979).

Note that income and net worth might not fully represent all of the components of

economic resources or suggest the ability of a household to meet financial emergencies

(Hong & Swanson, 1995), making the two indicators inadequate to measure well-being

(Mullis, 1992); complementary measures are needed. For this reason, Park and DeVaney

(2007) introduced asset and debt levels and suggested using two financial ratios which

are indicators of current financial strength and progress over time (Winger & Frasca,

2000) to integrate all of the major measures. First of all, the debt-to-income ratio reveals

the proportion of gross income used to repay consumer debt and represents the level of

debt a household can safely manage with respect to income, where debt is calculated by

summing up credit card debt, installment loans, and other debts, exclusive of mortgage

42
debt and home equity loans. According to DeVaney (2000) and Garman and Forgue

(2006), a debt-to-income ratio of less than 0.15 is recommended while Garman and

Forgue (1991) argued that a value of less than 0.3 indicates financial strength.

Alternatively, debt-to-assets assesses a household’s solvency and ability to pay debts,

representing household financial wellness. A debt-to-assets ratio below 0.5 is suggested

(Winger & Frasca, 2000).

Aside from these widely-used measures, the U.S. Census Bureau administrated

questions on income adequacy, ability to meet basic needs, and food sufficiency to

portray one’s quality of life (Bauman, 1999). Mullis (1992) introduced poverty level

income to represent household demands. In view of the importance of emergency fund

adequacy suggested by Hanna, Chang, Fan, and Bae (1993), Hong and Swanson (1995)

used emergency fund adequacy evaluated by dividing total liquid assets by two months

before-tax income as an indicator of well-being. To create a full-resource measure, Mullis

developed an economic well-being measure derived by summing up permanent income

and annuitized net worth and dividing the summed value by poverty level income,

suggesting that economic well-being is associated with a variety of factors, rather than

one single indicator.

Physical Well-Being

Physical well-being is another dimension of well-being, emphasizing individual

health such as weight, height, fitness, diseases, immunizations, substance use, and

physical abilities, limitations, problems, and conditions (Thornton, 2001). Generally, the

43
positive states of well-being correlate with better physical health (Diener & Seligman,

2004). Despite the subjective measure of health status, this measure is expected to be

correlated with medical assessment and with personal evaluation of well-being (Hartog &

Oosterbeek, 1998), making it a widely-accepted component of well-being (Ware, 1995).

Health refers to “a state of complete physical, mental and social well-being and

not merely the absence of disease or infirmity (World Health Organization, 1978)”; for

this reason, scholars have agreed on multi-dimensional measures of health status

(Scholle, Whiteside, Kelleher, Bradley, & Casey, 1995) and several surveys of general

health, including the Quality of Well-Being Scale, the Sickness Impact Portfolio, the

Nottingham Health Portfolio, and the Medical Outcome Studies Short Form Health

Survey, have included multiple dimensions such as physical functioning, social

functioning, and role functioning to evaluate health status.

The single question of general health perception differs from multi-dimensional

measures in that it does not focus on any specific dimensions of health status but mainly

reflects physical health problems and partially covers mental health problems (Krause &

Jay, 1994). Since the single question summarizes a variety of components, it is one of the

most frequently-used measures in many major studies (Krause & Jay, 1994). National

surveys such as the National Health Interview Survey, the National Health and Nutrition

Examination, the Rand Health Insurance Experiment, and the Medical Outcomes Study

all employ this single question as a component part. One concern about this measure is

that the youth tend to answer the question based on their behavior while older adults tend

to answer it according to their health problems. The single item may lose some of the

44
precision when compared to longer forms of health status measures. Despite the

limitations, its predictive power is satisfactory. Miilunpalo, Vuori, Oja, Pasanen, and

Urponen (1997), for example, showed a strong relationship between self-reported health

status and the prevalence of chronic disease. There was also a linear relationship between

baseline health status and number of reported visits to physicians in the next year. Idler

and Angel (1990) indicated that self-reported health status was associated with mortality.

Psychological and Emotional Well-Being

Thornton (2001) referred psychological well-being to mental health, self-esteem,

and happiness; Bradburn and Caplovitz (1965) assumed psychological well-being, mental

health, or happiness to be the same in meanings; Diener, Sapyta, and Suh (1998) argued

that subjective well-being (SWB) used interchangeably with happiness “is an

indispensible component of positive psychological health” to formulate health and good

life. Specifically, mental health is more than the absence of mental illness but represents

overall psychological and emotional condition; self-esteem which is a central aspect of

psychological well-being is a multi-dimensional construct, “comprising notions of worth,

health, goodness, appearance, and social competence (Goldsmith, Darity, & Veum,

1998)”; life satisfaction is the cognitive component of SWB (Pavot & Diener, 1993),

indicating a judgmental process in which individuals assess the quality of life in terms of

their own unique criteria (Shin & Johnson, 1978); happiness is the degree to which an

individual judges the overall quality of life as favorable (Veenhoven, 1993). Even if

happiness is not identical to utility, it captures life satisfaction and is considered a useful

45
approximation to utility (Frey & Stutzer, 2002). Economists have used SWB to measure

consumer preference and social welfare (Gruber & Mullainathan, 2005; Di Tella,

MacCulloch, & Oswald, 2001) or to check appropriateness of economic indicators

(Krueger & Siskind, 1998).

The measures of SWB can be elicited by asking respondents about their happiness

and life satisfaction as a whole or in specific domains in surveys (Kahneman & Krueger,

2006). SWB measures can also be evaluated by creating an index based on a series of

general statements (e.g. Pavot & Diener, 1993; WHO; 1998). Table 2.2 summarizes both

methods used in literature.

Instead of employing one measure of life satisfaction to evaluate psychological or

emotional well-being, Keith, Dobson, Goudy, and Powers (1981) included self-esteem

assessed by Rosenberg’s (1965) ten-item self-esteem scale as another measure. Williams

(1988) introduced six measures of psychological well-being such as global happiness,

self-esteem, ill health, psychological distress, depression, and psychological anxiety to

represent both positive and negative dimensions of mental health. Composite scores were

created by summing up responses to each scale and then standardizing for the purpose of

comparison. In Keith and Schafer (1987), psychological well-being was measured by

depression evaluated by a scale developed by Derogatis, Lipman, Covi, and Rickles

(1971), assuming that depression is a common condition of life and a fairly sensitive

indicator of life strains. Analogous to Derogatis et al., Kim and Mckenry (2002)

measured psychological well-being in terms of depressive symptoms evaluated using a

12-item variation of the Center for Epidemiologic Studies Depression Scale.

46
Author (s) Measurement (s) Score range
General Social Taken all together, how would you say things are these 1: Very happy
Survey1 days? Would you say that you are very happy, pretty happy, 3: Not too happy
or not too happy?

World Values All things considered, how satisfied are you with your life as 1: Dissatisfied
Survey2 a whole these days? 10: Satisfied

Eurobarometer On the whole, are you very satisfied, fairly satisfied, not 1: Not at all satisfied
Survey3 very satisfied, or not at all satisfied with the life you lead? 4: Very satisfied

Cantril (1965) Here is a picture of a ladder, representing the ladder of life. 0-10
Suppose we say the top of the ladder (step 10) represents the
best possible life for you, and the bottom (step 0) represents
the worst possible life for you. Where on the ladder do you
feel you personally stand at the present time?

Campbell, Converse, How do you feel about your life as a whole? 1-7
& Rodger (1976)

Mullis (1992) Six questions asking respondents’ levels of happiness in the 6-24
life domains of standard of living, housing, health, area of
residence and leisure time activities together with one
addressing the global dimension of “life in general”

Pavot & Diener - In most ways my life is close to my ideal. 5-35


(1993) - The conditions of my life are excellent.
- I am satisfied with my life.
- So far I have gotten the important things I want in life.
- If I could live my life over, I would change almost nothing.

WHO Collaborating - I have felt cheerful and in good spirits. 0-25


Center (1998) - I have felt calm and relaxed.
- I have felt active and vigorous.
- I woke up feeling fresh and rested.
- My daily life has been filled with things that interest me.

Table 2.2 Measures of Happiness or Life Satisfaction in Surveys or Previous Studies

1
Cumulative codebook of the General Social Survey. Available:
http://publicdata.norc.org:41000/gss/Documents/Codebook/FINAL%202006%20CODEB
OOK.pdf
2
WVS 2005 codebook. Available: http://www.worldvaluessurvey.org/
3
Survey data of the Eurobarometer Survey. Available: http://www.gesis.org/en/
services/data/survey-data/eurobarometer/eb-trends-trend-files/list-of-trends/life-satisf/?0=
47
2.4.2 Determinants of Well-Being

Effects of Risk-Taking Behavior on Well-Being

In light of human capital theory, schooling is considered an investment that may

be beneficial for different outcomes such as labor market performance, health, and other

indicators (Hong & Swanson, 1995), with an unbalanced emphasis being put on income

due to the unavailability of wealth data and other information in the past. Generally,

education attainment was positively related to economic well-being (e.g. Park &

DeVaney, 2007; Hong & Swanson, 1995). Specifically, Becker (1975) focused on earned

income and examined how human capital increases one’s productivity in the workplace,

showing that individuals with higher education level earn more because of their higher

productivity coming from the increased facility for conceptualization, communication,

logical reasoning, and more specific job skills. Controlling for other variables, Hartog

and Oosterbeek (1998) indicated that schooling increases wealth, with individuals who

held non-vocational intermediate level of education having the highest scores in wealth.

Similarly, Baek and DeVaney (2004) argued that education investment was an important

predictor of savings and debt. In terms of physical well-being, empirical studies showed a

positive correlation between schooling and health. Hartog and Oosterbeek (1998) showed

evidence that schooling affects health, with the highest health status effect being realized

for higher secondary education. Berger and Leigh (1989) also found a relatively strong

effect of schooling on health. In Kemna (1987), schooling explained a large proportion of

the variation in health. Specifically, Behrman and Wolfe (1989) found a positive effect of

schooling on female health. Education was found to be associated with psychological

48
well-being. Hartog and Oosterbeek (1998), for instance, indicated that individuals with

general, non-vocational intermediate level of education had the highest scores in

happiness. The positive relationship between happiness and education was even stronger

in poor countries than in rich ones (Hartog & Oosterbeek, 1998; Veenhoven, 1996).

Consensus has reached an agreement that investors of risky financial assets expect

to earn higher return to accumulate their wealth and that there is a quantitatively large

association between economic status and health. However, little attention has been paid

to the effect of risk-taking behavior in financial context on well-being in physical or

psychological dimension such as health status or happiness or life satisfaction. The

current study seeks to fill this research void.

Effects of Other Factors on Well-Being

Factors such as demographic characteristics, financial characteristics, and other

personal characteristics play a role in determining individual well-being.

Prather (1990) and Hong and Swanson (1995) stressed age effect on economic

well-being. Griffith (1985) and Mason and Griffith (1988) emphasized the importance of

life cycle, family status, economic status, economic environment, and individual

objectives and preference. Other socioeconomic factors, including home ownership,

employment status, race, and marital status were found to be associated with economic

well-being (e.g. Hong & Swanson, 1995).

Age, gender, marital status, presence of children, and socioeconomic factors such

as family income, occupation status, and employment status were associated with various

49
measures of psychological well-being (e.g. Marks & Fleming, 1999; Williams, 1988). In

Kahneman and Krueger (2006), life satisfaction or happiness was positively related to

sleep quality, smiling frequency, self-reported health, active involvement in religion,

income and income rank in a reference group, and recent positive changes of

circumstance such as increased income and marriage. Previous studies showed that self-

esteem is a stronger predictor of life satisfaction (Crocker, Luhtanen, Blaine, &

Broadnax, 1994; Lewinsohn, Redner, & Seeley, 1991; Diener, 1984). Campbell (1981)

argued that self-esteem is the most powerful predictor of life satisfaction in terms of the

U.S. adults. Hong and Giannakopoulos (1994) found that self-esteem is the best predictor

of life satisfaction, supporting the notion that self-esteem helps defeat negative

experiences, in turn, helps people experience good things in life.

2.5 Risk Tolerance, Risk-Taking Behavior, and Individual Well-Being

Shaw (1996) is one of the few researchers who estimated a model with joint

investments in risky financial and human capital assets to indicate that risk-averse

individuals were less likely to invest in risky human capital that pays higher expected

future wage rates. To connect risk aversion with risky financial and human capital assets,

Shaw measured one’s risk aversion according to his/her allocation of wealth to risky

financial assets, assuming that each individual possesses a concave utility function that

can apply to both risky financial investment and risky human capital investment. The

intuition of the derived wage rate equation is that individuals who own a larger share of

financial wealth in risky assets are less risk-averse and consequently will invest more in

50
risky human capital, shifting upward the return to human capital investment.

Note that risk tolerance was measured objectively via actual risky financial asset

holding; therefore, Shaw’s (1996) study failed to account for the effect of risk tolerance

on risky financial investment. Individuals’ investment decisions on human capital with

respect to risk tolerance cannot be determined if individuals did not own any risky

financial assets. Since most people invested in education when young or before investing

in risky financial assets, using share of financial wealth placed in risky assets as a proxy

for risk tolerance may not be appropriate for investigating the causal effect of risk

tolerance on human capital investment in the form of education. For this reason, Shaw’s

study may fail to answer the question that whether there is a casual relationship between

education investment and risky financial investment.

51
CHAPTER 3

THEORETICAL FRAMEWORK

A theoretical model that facilitates the examination into the determinants of risky

investments and the impacts of risky investments on individual well-being is presented

and discussed in this chapter. The expected utility model and the Capital Asset Pricing

Model are used in the current study. In the first section, utility is derived from the

demand for risky financial assets based on the expected utility model. In the second

section, demand for risky financial assets is derived from the determinants of risk-taking

behavior, namely risk tolerance, human capital, and total wealth, in term of the Capital

Asset Pricing Model. The third section presents a theoretical model that links risk

tolerance, risk-taking behavior, and individual well-being on the basis of the expected

utility model and the Capital Asset Pricing Model. Research hypotheses that are in line

with the theoretical model are presented and discussed in the fourth section.

3.1 Expected Utility Model

The expected utility model was developed by von Neumann and Morgenstern

(1947). Based on the axiomatic foundations of the expected utility model, economists

began seeing the potential applications of expected utility to economic issues such as

52
portfolio choice, making it a widely-used method to analyze portfolio optimality (Hanna

& Chen, 1997) and the most powerful normative model for decision making under risk

(LeRoy & Werner, 2001; Schoemaker, 1982). The expected utility model is also a

classical way to evaluate the level of satisfaction of a decision maker who bears risk

(Gollier, 2001). The most straightforward and best-known applications of the expected

utility model tended to define utility on a single magnitude, namely income, wealth,

money, or consumption (Deaton & Muellbauer, 1980).

3.1.1 Description of Expected Utility Model

Assume that A is the value of wealth if state  prevails, an investor is concerned

to maximize

u  Ev      v( A ) (3.1)

where u is the expected value of v and   is the probability of outcome v( A ) . In light

of von Neumann-Morgenstern hypothesis, the probabilities of outcomes, namely   ' s ,

are assumed to be objectively or exogenously given by nature, which means that

investors have no influence on   ' s . The main idea of the expected utility model is that

an investor will select a choice with the highest expected values. The investor must

accept greater risk or at least greater volatility in order to obtain higher expected values.

The following step is to incorporate an investor’s choice, say, asset holdings with

utility on a single magnitude, for example, consumption. To do this, the formulation in

Equation (3.1) needs to be justified under sufficient separability assumptions (Deaton &

53
Muellbauer, 1980). Suppose there is a two-period consumption model with consumption

vectors c1 and c 2 , where there is a weak separability in c 2 . Under the assumption of zero

bequests, the ultimate goal of an investor is to

max u  vc1 , v2 (c2 ) (3.2)

subject to p 2  c2  ( A0  y1  p1  c1 )  (1  r )  y 2  A1  y 2

where A0 is initial wealth, r is the interest rate, p1 and p 2 are price of consumption in

period one and period two, respectively, and y1 and y 2 are income in period one and in

period two, respectively.

Given the assumption of weak separability of c 2 , consumption in the second

period is a function of ( A1  y 2 ) and p2 , and the mixed direct-indirect utility function is:

u  vc1 , ( A1  y 2 , p2 ) (3.3)

Suppose uncertainty is confined to merely A1 , the expected utility maximization of

Equation (3.3) can be expressed as Equation (3.4) if Equations (3.3) and (3.2) are

additively separable in c1 and c 2 .

u   v1 (c1 )      v2 ( A1  y 2 , p2 ) (3.4)

Based on the assumption that y 2 and p2 are constant with values that are optimal for c1 ,

the overall maximization must imply that A1 is allocated such as to maximize the second

term on the right-hand side of Equation (3.4), which in turn can be equivalent to Equation

(3.1) (Deaton & Muellbauer, 1980).

The concavity or convexity of the function v(.) in Equation (3.1) plays a

54
significant role in the above specification, determining whether an investor is risk-averse

or risk-loving. Suppose different A ' s are different goods, the concavity of v(.) will

guarantee the quasi-concavity of the function as a whole; therefore, indifference curves

are convex to the origin (Deaton & Muellbauer, 1980). Specifically, suppose an investor

is considering buying fire insurance for a house and let A1 be wealth if the house is

burned down with the probability of  and A2 (> A1 ) if no fire occurs. The situation

corresponds with a concave function, v( A) , where the expected value of wealth,

EA    A1  (1   )  A2 , is shown on the horizontal axis as the convex combination of

A1 and A2 in Figure 3.1. With a concave elementary utility function, say v , investors are

concerned to maximize their expected utility, E (v)    v( A1 )  (1   )  v( A2 ) , which is

marked by point E on the chord connecting B  A1 , v ( A1 ) and C  A2 , v ( A2 ).

Comparing point D with point E, the concavity of the utility function implies that the

utility of expected wealth is greater than expected utility,

v  A1  (1   )  A2     v( A1 )  (1   )  v( A2 ) , indicating the utility-decreasing aspects

of pure risk-bearing. Obviously, if investors are generally averse to risk they would prefer

the certainty of the expectation of a random outcome to the uncertain prospect itself.

Since it is reasonable to assume that most individuals are risk-averse (Bailey, Olson, &

Wonnactoo, 1980), optimal behavior under risk can then be derived by assuming that the

risk-averse should maximize their expected utility with a utility function of wealth.

55
u
v( A2 ) C v( A)

v(EA) D
Ev
F E

v( A1 ) B

A1 A* EA A2 A

Figure 3.1: Concave, Risk-Averse Utility Function

3.1.2 Measures of Risk Aversion from Expected Utility Model

Arrow (1965) and Pratt (1964) have provided measures of risk aversion to

indicate the amount and the proportion of wealth an investor allocates to a risky assets

when his/her portfolio decision is limited to choosing combination of a relatively risk-

free asset and risky assets.

Specifically, Pratt (1964) defined the Absolute Risk Aversion (ARA),  A , as

v '' ( A) d log v ' ( A)


A     (3.5)
v ' ( A) dA

ARA refers to “twice the maximum premium the individual will pay to avoid one unit of

variance for very small risks (Deaton & Muellbauer, 1980).” With nonzero ARA, the

reciprocal of the ARA is a measure of risk tolerance (LeRoy & Werner, 2001).

56
Intuitionally, the rich are more risk tolerant than the poor with regard to the same risk,

resulting in the hypothesis of decreasing ARA (Arrow, 1965), which means that optimal

holding of risky assets increases with wealth. Numerous economists have also believed

that individual utility functions can be characterized by constant ARA (Friend & Blume,

1975).

Analogous to the ARA, the relative risk aversion (RRA),  R , was defined as

Av '' ( A) d log v ' ( A)


R      A  A (3.6)
v ' ( A) d log v

RRA indicates “twice the premium per unit of variance of a bet when both premium and

bet are expressed as proportions of assets (Deaton & Muellbauer, 1980).” Arrow (1965)

hypothesized that investors ought to display increasing RRA with respect to wealth,

meaning that as wealth and the size of the risk increase, willingness to accept risk should

decline. That is, the proportion of wealth invested in risky assets decreases with wealth.

Note that the traditional view of increasing RRA has been questioned in recent years and

it was advocated that RRA is constant rather than increasing with respect to wealth

(Friend & Blume, 1975). Consistent argument was made by Hanna et al. (2001) that “the

utility function is usually assumed to be the constant RRA utility function” where the

estimations of risk aversion is derived from actual behavior such as asset allocation.

Under constant RRA hypothesis, individuals may have iso-elastic power utility function

A1  R
(v  when  R  1 ) or log utility function ( v  ln(A) when  R  1 ).
1  R

57
3.2 Capital Asset Pricing Model

The Capital Asset Pricing Model (CAPM) developed by Sharpe (1964), Litner

(1965), and Mossin (1966) is an equilibrium asset pricing model, providing a model for

individual investor behavior under conditions of risk and a precise prediction on the

relationship between expected return and risk of an asset. The CAPM has also become

the most popular model of security market equilibrium (Cohn et al., 1975). The CAPM

extended Markowitz’s portfolio theory to introduce the notions of systematic and

unsystematic risk (Focardi & Fabozzi, 2004). Systematic risk refers to the risk of holding

the market portfolio, indicating the degree to which an asset covaries with the market

portfolio and the portion of an asset’s variability that can be attributed to a common

factor. On the other hand, nonsystematic risk is the risk unique to an individual asset,

representing the portion of an asset’s variability that can be diversified away. Investors

are compensated only if they took systematic risk. In sum, investors’ net exposure is

merely systematic risk of the market portfolio due to the availability of diversification.

3.2.1 Basic Assumptions of CAPM

The CAPM is a ceteris paribus model and valid within a special series of

assumptions that reduce a complex situation to an extreme case (Focardi & Fabozzi,

2004), providing a set of equilibrium conditions that facilitate predicting the return on an

asset for its level of systematic risk. Investors would analyze securities and determine the

portfolio composition in equilibrium by comparing systematic risk of an asset with those

of other assets in the market.

58
The followings are assumptions about characteristics of capital markets: Capital

markets are completely competitive and frictionless to all investors; there is a risk-free

asset available for investors either borrowing or lending at a risk-free rate; all assets are

perfectly divisible and priced, implying that human capital is non-existing since it is not

divisible and cannot be owned as an asset; taxes and transaction costs are irrelevant; and

information is freely and instantly available to all investors. Assumptions that deal with

the way investors make decisions are: Investors make decisions based on expected return

and its variance; investors are rational and risk-averse who maximizes the expected utility

of their end of period wealth, implying that investors must be compensated by the

opportunity of realizing a higher return to accept greater risk; risk-averse investors reduce

portfolio risk by combining assets with counterbalancing covariances or correlations

since investors subscribe to the Markowitz method of portfolio diversification; and

investors have the same expectations about expected return and variance of all assets.

Note that some of the assumptions will be released consequentially in the

following sub-sections. For example, investors may receive different information or

disagree about the future prospects for securities in terms of education disparity or unique

personal characteristics; therefore, they may not have the same expectations about

expected return and variance of all assets. The introduction of human capital assets is also

possible with modification of the theoretical CAPM.

3.2.2 Equilibrium Conditions under CAPM

In the CAPM, all investors will choose the market portfolio as their optimal

59
portfolio that includes all assets in the economy, with each asset being weighted in

proportion to its weight in the economy. Originally, since all investors have an agreement

on the estimates of securities’ expected returns, variances, covariances and the size of

risk-free rate, they face the same efficient set and would choose an identical risky

portfolio, which is on the efficient frontier that lies on the tangency line drawn from the

risk free asset. The demand for an asset would be zero and its price would approach zero

if the asset were left out of that portfolio; thus, all investors adjust their portfolio to

include this asset until it had a price that reflects its corresponding amount of risk. For

this reason, all assets will be included in each investor’s market portfolio.

In equilibrium, the market price of risk is expressed as a ratio of the expected risk

premium on risky assets to the variance of return on those assets which is equal to the

product of market value of all risky assets and a measure of ARA of an investor k ,

E (rm  r f )
 MVm ,k   A,k (3.7)
 m2

where rm and r f are the return on the market portfolio of all risky assets and on risk-free

asset, respectively,  m2 is the risk of the market portfolio, MVm,k is the market value of all

risky assets, and  A,k is the Pratt’s measure of RRA. Recall the relationship between the

Pratt’s measures of RRA and ARA,  R ,k   A,k  Ak . Equation (3.7) can be rewritten as

E (rm  r f )  R ,k MVm,k
 MVm,k     R ,k (3.8)
 2
m Ak Ak

The proportion of wealth that an investor k allocates to the market portfolio can then be

60
expressed as Equation (3.9) by rearranging Equation (3.8).

E (rm  r f ) 1
k   (3.9)
 2
m  R ,k

where  k denotes the proportion of the investor’s wealth allocated to risky assets.

Assuming that market price of risk (the fist term on the right-hand side of Equation (3.9))

holds constant across all investors, the only reason that investors choose a different

portfolio is because they have diverse indifference curves. In other words, investors will

choose distinct portfolios from the same efficient set according to their diverse

preferences toward risk and return.

The basic CAPM in Equation (3.9) was further developed by Friend and Blume

(1975), who estimated RRA by maximizing an investor’s expected utility function using

a Taylor series expansion. Note that the original assumption that financial assets are

infinitely divisible and can be traded with zero transaction costs becomes problematic

when it is applied to human capital, the current study follows Friend and Blume to

redefine  k as a ratio of liquid risky assets to liquid wealth (total wealth less human

wealth) and rm as the return on the market portfolio of liquid risky assets to introduce

human capital. Taking into account the dependence of  k on the covariance between the

rate of return on the liquid market portfolio ( rm ) and the rate of return on human wealth

( rhk ), namely cov(rm , rhk ) , the ratio of liquid risky assets to liquid wealth is expressed as,

E (rm  r f ) 1 1 hk
k       hk ,m (3.10)
 2
m  R ,k (1  hk ) (1  hk )

61
where hk is the ratio of human wealth to total wealth of the investor k and  hk ,m is the

ratio of cov(rm , rhk ) to  m2 . In terms of Equation (3.10), the proportion of liquid wealth

allocated to risky financial assets is determined by individual risk tolerance, human

wealth, total wealth, and cov(rm , rhk ) , given a fixed market price of risk.

Previous researchers (e.g. Fama & Schwert, 1977; Liberman, 1980) have argued

that  hk ,m in Equation (3.10) was close to zero and this result was borrowed in empirical

studies for the purpose of simplicity (e.g. Schooley & Worden, 1996; Bajtelsmit et al.,

1999; Hariharan et al., 2000). Notice that the conclusion that human capital is weakly

related to the financial market was built on the assumption of a purely exogenously

determined human capital asset (Liberman, 1980). An alternative investment model that

explicitly allows for an endogenously determined human capital asset may predict a

significantly strong relationship between human capital assets and financial assets. For

this reason, the current study allows for a non-zero  hk ,m . The total dollar amount of

liquid wealth allocated to risky financial assets, Fk , is obtained by multiplying  k in

Equation (3.10) by the value of liquid wealth ( Alk ) held by the investor k .

 E (rm  r f ) 1 1 hk 
Fk   k  Alk        hk ,m   Alk (3.11)
  m
2
 R ,k (1  hk ) (1  hk ) 

The total dollar amount of liquid wealth allocated to risky financial assets is determined

by risk tolerance, human wealth, total wealth, and the ratio of cov(rm , rhk ) to  m2 , holding

the market price of risk fixed.

62
3.3 Specifications of Theoretical Model

The expected utility model implies that the utility of an investor depends on

his/her demand for risky financial assets and individual tastes or preferences. The utility

function of an investor k can be expressed as

u k  Ev( Fk ; P k ) (3.12)

where Fk denotes total dollar amount of risky financial assets held by the investor k and

Pk denotes a vector of preference factors. The utility function v(.) is defined for the

investor in the case of risk-taking behavior model. The investor who makes investment

decisions on risky assets will maximize a von Neuman-type expected utility function,

max u k  Ev( Fk ; Pk ) (3.13)

where Fk is a function of risk tolerance, human wealth, and total wealth of the investor,

with the relationship between risk tolerance and wealth being defined by the RRA. In

other words,

Fk  F (  R ,k , H k , Ak ) (3.14)

where H k denotes the dollar amount of human wealth of an individual.

Since education attainment is positively correlated with human wealth, education

investment is considered a proxy for dollar amount of human wealth. Consequently,

Fk  F (  R ,k , E k , Ak ) (3.15)

where E k denotes human capital assets in the form of education.

The function of risky financial assets can be substituted into the utility function to

63
express the investor’s utility as a function of risky financial investment.

u k  Ev ( F (  R , k , E k , Ak ); Pk ) (3.16)

Note that the human capital is endogenously determined within the model when investors

were young and it is considered one type of risky assets that investors may hold;

accordingly, E k can be expressed as a function of risk tolerance and tastes or preferences.

E k  E (  R ,k ; Pk ) (3.17)

Equation (3.16) can be rewritten as Equation (3.18). The ultimate goal of an investor is to

max u k  Ev[ F (  R , k , E (  R ,k ; Pk ), Ak ); Pk ] (3.18)

subject to PF  Fk  PE  E k  I k

where PF and PE are the prices of risky financial assets and human capital assets in the

form of education and I k denotes income level of an investor k .

Investors maximize their utility subject to the budget constraint determined by the

prices of risky assets and income level. Note that differences in prices and income do not

explain all of the disparities in decision making. Other variables such as age, gender, race,

and so forth of a particular investor “not only raise the ‘explanatory’ power of the

demand function, but also permit the effect of differences in prices and incomes to be

disentangled from other effects” (Becker, 1971). Generally, risk-taking behavior of a

utility-maximizing investor is entirely determined by prices, income, and his/her tastes or

preferences. If different investors invest “differently after adjustment for prices and

income, the conclusion would have to be that their tastes differed (Becker, 1971).”

64
3.4 Hypotheses Development

The hypotheses are formulated based on the theoretical model developed in

section 3.3. Figure 3.2 depicts the structure of the theoretical framework, graphically

explaining the relationship between risk tolerance, risk-taking behavior, and well-being.

The theoretical framework is composed by three correlated parts. The first part examines

the impacts of risk tolerance on education investment. The second part explores the

impacts of risk tolerance and education investment on risky financial investment. The

third part focuses on how risk tolerance and risky investments in different domains

explain the disparity in individual well-being in economic, physical, and psychological

dimensions. The implications of the first and second parts will be integrated into the third

part analysis.

H1 Investment in
Education
(E) H3a, H3b H4a-H4c

Well-Being
Risk Tolerance Investment in ( WB )
( R ) Risky Financial Assets
H2a, H2b (F ) H5a-H5c

Figure 3.2: Conceptual Framework Depicting Risk-Taking Behavior

65
3.4.1 Part One: Determinants of Investment in Education

Even though the value of  hk ,m has been demonstrated to be close to zero and a

group of researchers employed this result to explore different types of risky financial

asset holding assuming that human capital is a purely exogenously determined asset, a

human capital asset may relate to the financial market in terms of the pricing of financial

assets and portfolio composition in practice. Theoretically and empirically, human capital

investment is considered risky because investors may face uncertainty. In other words,

investment in education gives investors the right to receive a stream of risky dividend

payments in the future (Saks & Shore, 2005), playing a critical role in evolution of

earnings, employment and economic growth, and aggregate wealth portfolio

(Christiansen et al., 2007), which is similar to the role of risky financial assets. For this

reason, an investor decides to invest in education depending on his/her risk tolerance

level that represents individual tastes or preferences for risks. This study hypothesizes

that human capital investment in the form of education is endogenously determined by

risk tolerance, holding all other factors constant. Note that the risks with respect to

education investment depend on one’s subjective adjustment which means that some

groups of people may consider education investment as a risky behavior and some of

them may view education investment as insurance. Therefore, the current study does not

specify the direction of the effect of risk tolerance on investment in education.

H1: Holding all other factors constant, risk tolerance has a significant effect on

investment in education.

66
3.4.2 Part Two: Determinants of Investment in Risky Financial Assets

In order to examine the effect of risk tolerance on investment in risky financial

assets, the first order conditions of Equations (3.10)-(3.11) are differentiated with respect

to  R ,k , respectively. First of all, the effect of risk tolerance on the ratio of risky assets to

liquid wealth is examined by taking the partial derivative of  k with respect to  R ,k .

 k E (rm  r f ) 1 1
   2 . (3.19)
 R ,k m2
(1  hk )  R ,k

Similarly, the effect of risk tolerance on the total dollar amount of liquid wealth allocated

to risky financial assets is derived by taking the first order condition with respect to  R,k .

Fk E (rm  r f ) 1 1
   2  Alk . (3.20)
 R ,k m2
(1  hk )  R ,k

Equations (3.19)-(3.20) consistently show a negative impact of risk aversion on

investment in risky financial assets if the return on the market portfolio of all risky assets

is larger than that on risk-free asset, which is generally the case when the economic

situation is either normal or in prosperity. In Equation (3.19), the proportion of liquid

E (rm  r f ) 1 1
wealth allocated to risky financial assets decreases by   2 units as
 2
m (1  hk )  R ,k

the level of risk aversion increases by one unit, with the other variables held constant.

Similarly, Equation (3.20) shows that the dollar amount of liquid wealth allocated to

E (rm  r f ) Alk 1
risky financial assets decreases by   2 units as the level of risk
 2
m (1  hk )  R ,k

aversion increases by one unit, holding the other variables constant. The negative impact

67
of risk aversion in both equations implies that a more risk tolerant investor will invest

more on risky financial assets in terms of proportion and dollar amount of liquid wealth.

H2a: Holding all other factors constant, risk tolerance has a significant effect on the

proportion of liquid wealth invested in risky financial assets.

H2b: Holding all other factors constant, risk tolerance has a significant effect on dollar

amount of liquid wealth invested in risky financial assets.

An education investment variable is not explicitly shown in Equations (3.10)-

(3.11). Fortunately, education investment regarding years of schooling is positively

associated with the present value of future earnings or discounted values of the average

labor income which are measures of human wealth. Individuals hold a greater amount of

human wealth because they have higher education level or more schooling, holding the

other variables constant. For this reason, the effect of education investment on risky

financial investments can be examined by taking the first order conditions of Equations

(3.10)-(3.11) with respect to hk , respectively.

 k  E (rm  r f ) 1  1
    hk ,m   (3.21)
hk   m 2
 R ,k  (1  hk )
2

Fk  E (rm  r f ) 1  Alk


     (3.22)
hk   m  R ,k  (1  hk )
2 hk , m 2

The first term on the right-hand side in Equations (3.21)-(3.22) determines the

direction of the impact of education investment on risky financial investments. If

 E (rm  r f ) 1 
    hk ,m  is larger than zero, education investment boosts risky
  m  R ,k
2


68
financial investment. Investors who have more schooling allocate a larger proportion or a

greater amount of liquid wealth to risky financial assets. Otherwise, education investment

has a negative effect on risky financial investment, which means more educated investors

invest a smaller proportion or a smaller amount of liquid wealth to risky financial assets.

H3a: Holding all other factors constant, investment in education has a significant effect

on the proportion of liquid wealth invested in risky financial assets.

H3b: Holding all other factors constant, investment in education has a significant effect

on dollar amount of liquid wealth invested in risky financial assets.

The effect of total wealth on risky financial investments can be examined by

taking the first order conditions of Equations (3.10)-(3.11) with respect to Ak .

 k  E (rm  r f ) 1  Hk
   hk ,m    (3.23)
Ak  m2
 R ,k  ( Ak  H k ) 2

Fk  E (rm  r f ) 1 
    hk ,m    (3.24)
Ak   m2  R ,k 

Equation (3.23) presents a negative relationship between total wealth and the proportion

of liquid wealth allocated to risky financial assets if the first term on the right-hand side,

 E (rm  r f ) 1 
namely   hk ,m    , is smaller than zero, implying that the proportion of
 m2
 R ,k 

liquid wealth allocated to risky financial assets decreases as total wealth increases. On the

contrary, Equation (3.24) demonstrates a positive relationship between total wealth and

dollar amount allocated to risky financial assets if the term in the bracket is negative. A

wealthier investor allocates a greater amount of his/her liquid wealth to risky financial

69
assets. Likewise, the effect of preferences or tastes of one particular investor should be

determined in order to fully investigate the predictors of risky investment decision in the

financial market. The inclusion of variables such as age, gender, race, and so forth can

also increase the explanatory power of the entire model.

3.4.3 Part Three: Determinants of Individual well-being

“The preference functional U is an index that represents the degree of

satisfaction of the decision maker (Gollier, 2001)”, where utility or satisfaction is

acquired through making decisions within the budget constraint. It is believed that

individuals are willing to take greater risks because they anticipate earning higher rates of

return or ultimately expect to advance their individual well-being. Theoretically, the

effect of investment in education on individual well-being can be examined by taking the

u k
first order condition of Equation (3.18) with respect to E k , namely . Similarly, in
E k

order to examine the effect of risky financial investments on individual well-being, the

first order condition of Equations (3.18) is differentiated with respect to  k and Fk ,

u k u k
respectively, namely and . In general, income, consumption, and net worth are
 k Fk

commonly-used indicators of economic well-being. Measures of well-being in other

dimensions such as physical and psychological dimensions are also included to provide a

comprehensive picture for individual well-being. Assuming that individuals prefer more

to less, it is hypothesized that individuals who invest more in education and/or risky

70
financial assets have better economic, physical, and psychological well-being later in life.

H4a-H4c: Holding all other factors constant, investment in education has a significant

effect on economic (physical and psychological) well-being later in life.

H5a-H5c: Holding all other factors constant, investment in risky financial assets has a

significant effect on economic (physical and psychological) well-being later in life.

71
CHAPTER 4

DATA AND METHODOLOGY

The data and its sample design, and the sample used in the current study are

described in Chapter 4. Empirical method and measurements of variables are presented in

detail in this chapter. Descriptive statistics of the sample is also presented.

4.1 Data

The National Longitudinal Survey of Youth 1979 (NLSY79), sponsored and

directed by the Bureau of Labor Statistics of the U.S. Department of Labor, is a randomly

selected nationally representative sample of 12,686 young persons who were 14-22 years

old when they were first interviewed in 1979. Subsequent interviews were conducted

every year through 1994 and biennially from 1996 to present. These individuals are now

in their early forties to early fifties and have been interviewed for nearly three decades.

Twenty-two of the survey waves have been released to provide detailed information on

how individuals change their life over time. Note that the majority of surveys available

have concentrated on the rich or older adults, the NLSY79 pays a great deal of attention

to a group of people who are at the stage of building physical and human wealth, namely

the young baby boomers (Zagorsky, 1997).

72
The NLSY79 contains two independent civilian samples and an independent

military sample: A cross-sectional sample of 6,111 respondents who are representative of

non-institutionalized civilian youth population living in the U.S. in 1979 and born

between 1957 and 1964; a supplemental sample of 5,295 young respondents to

oversample civilian Hispanics, Blacks, and economically disadvantaged non-Black and

non-Hispanic US youths living in the U.S. in 1979 and born between 1957 and 1964; and

a sample of 1,280 respondents who represent the population born between 1957 and 1961

that were enlisted in one of the four branches of the active military forces as of 1978

(Zagorsky, 1999). While merely a few micro level data sets are available for analyzing

the U.S. experience (Wolff, 1996), the NLSY79 data chronicle the transitions made by

respondents such as finishing their schooling, moving out of their parents’ homes,

investing in continuing education and training, participating in labor market, serving in

the military, getting married, starting their own families, and becoming home owners

during the years since they were first interviewed, making it possible to investigate these

experiences of a large group of youths in the U.S.

Information on each respondent’s family background was collected in the initial

wave. Subsequent surveys have included questions on subjects such as self-esteem.

Additional questions on a variety of related topics that change from year to year are

contained in the NLSY79: Family income and assets, health conditions, geographic

residence and environmental characteristics, household composition, and demographic

characteristics. Due to much broader interests of governmental agencies besides the U.S.

Department of Labor, the NLSY79 also included other topical areas in selected years

73
such as the 1980 Armed Service Vocational Aptitude Battery and a self-report

supplement to the 1980 survey data on delinquent and criminal activities. The wealthy

data set makes it possible to derive risk tolerance based on illegal activity participation, to

examine investments in risky financial assets and education, and to measure individual

well-being later in life. Likewise, the NLSY79 includes a set of hypothetical income risk

questions, which are similar in structure to those in the 1992 HRS, for categorizing

respondents according to their respective risk tolerance. All of the NLSY79 respondents

were asked to respond to these hypothetical questions in 1993, 2002, and 2004, and the

numbers of responses were 8,945 in 1993, 7,485 in 2002, and 7,176 in 2004, with 6,453

respondents being common between 1993, 2002, and 2004 waves.

To sum up, the NLSY79 has its advantage in studying young baby boomers. First,

the NLSY79 provided various information on young baby boomers who had just started

their new life stage and followed these boomers during the period when they were

primarily making choices of financial investment and education investment. Second, not

only can the data on illegal activity participation at an early life stage be used to create

indices for risk tolerance but the longitudinal data provide the capacity to construct a

time-varying, conditional measure of risk tolerance. Longitudinal data also allow

following respondents over time and, thereby, better separate out risk-taking behavior

due to demographic characteristics and risk tolerance. Moreover, the NLSY79 is one of

the few longitudinal surveys that collect complete wealth information of a host of

individuals. Husband and wife were asked separately about their income, asset, debt,

liability, and wealth; thus, investigation into the relationship between risk tolerance, risk-

74
taking behavior, and well-being can be conducted at an individual level. Last, the

participation rate was high (Zagorsky, 1999) and methods used to contact individuals

who missed an interview and to bring them back into the survey has reduced attrition.

Respondents who were brought back into the survey were asked to report information

since their last interview, making it possible to reduce information loss.

4.2 Sample Design

The NLSY79 used a complex sampling design that includes stratification and

clustering for all civilian samples. The process of a multi-stage stratified area probability

sampling involved several stages such as the selection of primary sampling units (PSUs),

districts-block groups (BGs), and sampling listing segments (Eberwein, Olsen, & Reagan,

2003). The first stage of the sample selection involved selecting an area sample of PSUs,

which furnished the sampling frame for the next stage. Within PSUs, BGs were formed

based on median income and percentage black. The supplemental sample also stratified

on the relative population size of the three target groups. Within each BG, sampling

listing segments were formed, followed by obtaining a sample of dwelling units within

listing segments and individual quarters from the segments. The NLSY79 also

moderately oversampled dwelling units in order to increase the sample composition of

the targeted groups of the supplemental sample.

The military sample was selected from up-to-date lists of all personnel on active

military duty provided by the Department of Defense using a stratified, two-stage

selection procedure, stratified by branch of services and by geographical region, in which

75
females were oversampled at roughly six times the rate for males to produce

approximately equal numbers of males and females in the final sample. First of all, a

sample of military units was selected with probabilities proportional to the number of

persons born between 1957 and 1961 and serving in the military units as of September 30,

1978. Within selected units, persons born in 1957 through 1961 were sub-sampled with

probabilities inversely proportional to the first-stage selection probability.

4.3 Sample Selection

The sample for this study consists of the young baby boomers who participated in

all of the 1979, 1980, 1981, 1993, 2000, 2002, 2004, and 2006 waves in order to portray

causal relationships among risk tolerance, risk-taking behavior, and well-being,

controlling for all other variables. The selection of sample is presented in Figure 4.1.

The original size of the NLSY79 was 12,686. Budgetary constraint prevented

1,079 members of the military subsample and 1,643 members of the supplemental sample

from being eligible for interview after the 1984 wave and the 1990 interview,

respectively, generating a smaller sample with size of 9,964 respondents in the first place

(Zagorsky, 1999). Other reasons such as respondent refusal/breakoff, inability to locate

respondents, and respondent decease make the sample size decreases by year, resulting in

a relatively smaller size of 7,654 respondents in 2006 compared to the initial number.

76
1979 NLSY79
(N= 12,686)

Initial total sample size in 2006


(N=7,654)

Providing full information on well-being in 2006


(N=6,782)

Providing full information on risky investments in 2004


(N=6,169)

Providing full information on the 2004 hypothetical


income risk questions
(N=5,815)

Providing full information on wealth, income, preference


characteristics, and control variables in 2004
(N=5,158)

Providing full information on the 2002 hypothetical


income risk questions
(N=4,845)

Providing full information on net worth in 2000


(N=4,546)

Providing full information on the 1993 hypothetical


income risk questions
(N=4,471)

Providing information on AFQT score and illegal activity


participation in 1981 and 1980
(N=4,059)

Providing full information on preference factors and


control variables in 1980 and 1979
(N=3,425)

Figure 4.1: Sample Selection Process

77
The quantity of missing values which is one of the measures of data quality is

taken into consideration to satisfy the need for accuracy and trustworthiness of statistical

results (Zagorsky, 1999). In the 2006 wave, the number of respondents who provided full

information about their well-being measures in each dimension was 6,782, with 305, 296,

36, and 235 respondents being dropped from the sample sequentially due to missing

values in current earned income, family income, Physical Component Summary score,

Rosenberg’s self-esteem scales, and Mental Component Summary score. This procedure

resulted in dropping roughly 11.4 % of the NLSY79 respondents.

Similarly, respondents who failed to answer a set of financial asset questions or to

report the highest grade completed in 2004 were not selected, resulting in a sample size

of 6,169 respondents. Missing values in a sequence of hypothetical income risk questions

in 2004 dropped 354 respondents from the sample, resulting in a sample of size 5,815. In

addition, 657 respondents did not completely answer a series of questions that indicate

their total wealth, total family income, tastes and preferences, including age, marital

status, self-employment status, presence of children, family size, inherited wealth, and

home ownership, and control variables such as region of residence and Standard

Metropolitan Statistical Area (SMSA) status, dropping approximately 11.3 % of the

respondents in 2004 wave.

The same procedure was applied when selecting variables in the 2002, 2000, 1993,

1981, 1980, and 1979 waves. First, 4,845 respondents out of 5,158 answered the 2002

hypothetical income risk questions, dropping 6.1 % of respondents. In the 2000 wave,

299 respondents failed to provide net worth information, resulting in dropping roughly

78
6.2% of the respondents. The 1993 hypothetical income risk questions dropped another

75 respondents. Respondents who did not respond to the illegal activity participation

questions in 1980 were excluded. This criterion resulted in dropping 9.2 % of the

respondents, leaving 4,059 respondents for data analysis. Country of birth and region of

residence at age 14 questions dropped 16 respondents and questions about preference

characteristics such as parental education, number of siblings, and highest grade

completed by the oldest sibling altogether dropped 618 respondents. This sample

selection process ultimately generates a sample size of 3,425 respondents for further data

analysis.

4.4 Empirical Method

Univariate, bivariate, and multivariate analyses are used in this study. First,

univariate analysis were used to explore level of risk tolerance, risky investment

decisions such as risky financial investment and education investment, and well-being in

terms of income, health status, and self-esteem separately, without controlling for any

other variables. Second, bivariate analysis is employed to determine how some variables

relate to others. Last, multivariate analysis simultaneously analyzes multiple

measurements on each individual under investigation. The multivariate analytical

technique is introduced in the following section.

4.4.1 Simultaneous Equations Model

Even though regression analysis is a popular multivariate analysis methodology

because it captures multiple relationships simultaneously, provides a simple and fast

79
estimation results, and has the ability to capture all the direct effects from the included

variables, regression analysis fails to deal with any indirect impacts coming from causal

relationships among the variables included (Ahn, 2002). It is very likely that education

investment and investment in risky financial assets are jointly determined by a set of

explanatory variables such as risk tolerance, preference characteristics, and disturbance

terms. Additionally, risk tolerance may exert its impact on risky financial investments via

a third variable, namely education investment. An overestimation of the impact of

education investment based on regression analysis may result from ignoring various

indirect effects of other factors on risky financial investments through education

investment.

Comparatively, a simultaneous equations model that consists of multiple

equations with each equation being related to the others by either endogenous variables

or correlated error terms is a recommended statistical method, allowing an analysis that

accounts for joint decision making of an individual regarding human capital assets and

risky financial assets. A structural model is expressed in terms of a set of equations.

E k   0   1  R ,k   2 X E ,k  u k (4.1)

Fk   0  1  R ,k   2 E k   3 X F ,k  v k (4.2)

WBk   0   1 E k   2 Fk   3 X WB ,k  wk (4.3)

where  R,k , E k , Fk , and WBk denote the level of risk tolerance, education investment,

risky financial investments, and well-being of an investor k , respectively, X E ,k , X F ,k ,

80
and X WB ,k are vectors of preference characteristics and control variables, and u k , v k , and

wk are disturbances, capturing the respective unobservable factors that govern decisions

to invest in education and risky financial assets and the level of well-being. In this

structural model, E k , Fk , and WBk are continuous endogenous variables because they are

determined inside the model,  R,k , X E ,k , X F ,k , and X WB ,k are exogenous because they

are determined outside the model, and  ' s ,  ' s , and  ' s are the coefficients of these

endogenous variables.

In terms of standard algebraic methods, the reduced-form of the original structural

model is presented in Equations (4.4)-(4.6), specifying how the value of each endogenous

variable is related to the values of the exogenous variables, the disturbances, and the

structural coefficients.

E k   10   11  R , k   12 X E ,k   1k (4.4)

Fk   20   21  R , k   22 X E ,k   23 X F ,k   2 k (4.5)

WBk   30   31  R ,k   32 X E ,k   33 X F ,k   34 X WB ,k   3k (4.6)

where  coefficients are complex combinations of  ' s ,  ' s , and  ' s and  ' s are

combinations of u ' s , v' s , w' s  ' s ,  ' s , and  ' s .

Analogous to IV technique, exogenous variables in the system of simultaneous

equations are considered the best candidates for instrumental variables because they are

correlated with the endogenous variables and uncorrelated with the disturbance. In order

to create a best instrumental variable that is highly correlated with the regressor for which

81
it is acting as an instrument, it is suggested to first regress each endogenous variable that

acts as a regressor in the equation being estimated on all of the exogenous variables in the

system of simultaneous equations and then calculate the estimated values of these

endogenous variables. Note that the two instrumental variables, Ê k and F̂k , will not be

correlated with the error term in the model. In turn, the estimated values of these two

endogenous variables are used as the required instrumental variables for these

endogenous variables, such that

E k   0   1  R ,k   2 X E ,k  u k (4.7)

Fk   0   1  R ,k   2 Eˆ k   3 X F , k  v k (4.8)

WBk   0   1 Eˆ k   2 Fˆk   3 X WB ,k  wk (4.9)

4.5 Measurement of Variables

4.5.1 Dependent Variables

Individual Well-Being

An array of well-being measures in different dimensions which are collected in

the 2006 wave are the first set of dependent variables to provide a more comprehensive

picture for understanding the impacts of risky decisions in the financial market as well as

in human capital and/or economic and preference characteristics.

According to Mullis (1992), current earned income and family income are

employed as continuous indicators of economic well-being. Current earned income

comes from military service, wages, salary, commissions, and tips, and businesses and/or

82
professional practices. Family income includes current earned income plus government

transfers and welfare payments, private transfers such as child support, alimony and gifts,

and other sources, including scholarships, interest, dividends and rent (Zagorsky, 2003).

If respondents are married in 2006, family income is divided by two so as to conduct an

analysis at an individual level. Note that the two indicators of economic well-being are

logarithm-transformed due to their right-skewed distribution. Physical well-being is

captured by the Physical Component Summary score (PCS-12) from the Short-Form-12

(SF-12) designed to measure general health status from an individual’s point of view. A

PCS-12 score is a continuous variable ranging from 0 to 100, with higher scores

indicating better physical health. While direct indicators of psychological well-being are

not available, this study employs self-esteem as a proxy for happiness or life satisfaction

because self-esteem was considered a powerful predictor of life satisfaction (Hong &

Giannakopoulos, 1994) and “regarded as an important psychological characteristic that

enhances psychological well-being (Kim & McKenry, 2002).” A respondent’s self-

esteem level is evaluated based on Rosenberg’s (1965) ten-item global self-esteem

instrument (See Appendix A), which is by far the most widely-used instrument (Robins,

Hendin, & Trzesniewski, 2001), tracking how much individuals believe they are capable,

satisfied and proud versus how much they view themselves as useless or a failure.

Responses to item one, two, four, six, and seven are reversed coded and responses to the

ten items are then summed up in one value. The self-esteem measure ranges from 10 to

40, with higher scores representing a higher level of self-esteem. Mental Component

Summary score (MCS-12) from the SF-12 is the other psychological well-being

83
indicator. Analogous to a PCS-12 score, a MCS-12 score ranges from 0 to 100, with

higher values indicating better mental health.

Investment in Risky Financial Assets

The second set of dependent variables is risk-taking behavior in the financial

market. Definitions of risky assets are diverse in literature, with stocks, bonds, and

mutual finds being the common components (See Table 4.1). As for risky financial

investment, it was captured by ratio of risky assets to wealth (e.g. Jianakoplos &

Bernasek, 1998; Schooley & Worden, 1996), ratio of risky assets to net worth (e.g.

Bajtelsmit et al., 1999; Friend & Blume, 1975), ratio of risky asset to financial assets (e.g.

Hariharan et al., 2000; Shaw, 1996;), share of one particular risky asset in financial

wealth (e.g. Kimball et al., 2005; Barsky et al., 1997), share of risky assets in total assets

(Xiao et al., 2001), or actual stock ownership (e.g. Sahm, 2007; Heaton & Lucas, 2000).

84
Author (s) Data Risky Assets
Sahm (2007) The 1992-2002 HRS Corporate stocks (exclusive of stocks in IRAs or DCs);
mutual funds and investment funds

Brown, Garino, The 2001 PSID Stock in publicly held corporations, mutual funds or
et al. (2006) investment trusts

Gutter & Fontes The 2004 SCF Stocks; stock mutual funds; stock or stock funds held in
(2006) pensions; owned business assets

Guiso & Paiella The 1995 SHIW Private bonds; stocks; mutual funds
(2004)

Rosen & Wu The 1992-1998 HRS Stocks; mutual funds


(2003)

Hariharan et al. The 1992 HRS Stock in publicly held corporations, mutual funds or
(2000) investment trusts; corporate, municipal, government,
foreign bonds and bond funds

Bajtelsmit et al. The 1989 SCF Balances in IRAs not invested in bank deposits; stock
(1999) holdings less margin loans outstanding; bonds; trust
assets; real estate other than residential housing;
businesses owned; other miscellaneous assets; the
balances in defined contribution pension

Wang & Hanna The 1983-1989 SCF All real estate held for investment purposes; total value of
(1997) business assets; mutual funds; corporate stocks; precious
metals; pension assets in the forms of stocks, bonds, and
mutual funds

Schooley & The 1989 SCF All real estate held for investment purposes; mutual
Worden (1996) funds; corporate stock; precious metals; corporate and
government bonds; amounts accumulated in all other
pension accounts; loans to individuals; an estimate of
human capital

Morin & Suarez The 1970 Canadian Stocks, bonds, and mutual funds; real estate other than
(1983) SCF owner-occupied home; equity in own business; loans held

Table 4.1: Definitions of Risky Assets in Previous Studies

85
Following Heaton and Lucas (2000), Guiso and Paiella (2004), Hariharan et al.

(2000), Kimball et al. (2005), and Barsky et al. (1997), this study uses two continuous

indicators to represent the importance of risky financial assets as a component in

portfolio composition. The first indicator is the ratio of risky financial assets to financial

assets, where risky financial assets include stocks, corporate bonds or government

securities, and mutual funds and financial assets is calculated by summing up total dollar

amount in certificates of deposits, in government savings bonds and Treasury Bills, in

corporate, municipal, government, foreign bonds and bond funds, in all shares of stock in

publicly held corporations, and in mutual funds or investment trusts (Rosen & Wu, 2003;

Hariharan et al., 2000). The second indicator is dollar amount of stocks which is held by

a respondent. All of the asset and wealth data were collected from the 2004 wave.

Investment in Education

The last set of dependent variable is to indicate the level of investment in

education. Generally, an individual’s education investment can be captured by either a

continuous variable of years of schooling or a categorical variable of highest educational

attainment (See Table 4.2). The current study employs a continuous variable of years of

schooling to indicate education attainment based on the question of highest grade

completed in the 2004 wave.

Measurements of dependent and independent variables used in the current study

are summarized in Table 4.3.

86
Author (s) Measures
Belzil & Leonardi (2007) Schooling attainments (six ordered levels):
(1) no education
(2) elementary school (attained at 11 years of age)
(3) junior high school (attained at 14 years of age)
(4) high school (attained at 18 years of age)
(5) university degree (attained at 23-24 years of age)
(6) post-university degree
(the last two categories being combined into college degree or more)

Brown, Ortiz, et al. (2006) Highest educational attainment:


(1) less than high school completed (less than grade 12)
(2) high school completed
(3) went to college but did not graduate
(4) graduated from college
(5) completed some postgraduate education

Carneiro, Hansen, & Heckman (1) had graduated from a four year college:
(2003) -having a college degree or having completed more than 16 years in
school
(2) had graduated from high school:
-having a high school degree or having completed 12 grades and
never reported college attendance

Low & Ormiston (1991) (1) had a college degree


(2) did not have a college degree

Brown, Ortiz, et al. (2006) Years of schooling


Guiso & Paiella (2004)
Brunello (2002)
Hong & Swanson (1995)
Low & Ormiston (1991)
Bowles (1972)

Table 4.2: Measurements of Investment in Education in Previous Studies

87
Variables Measurement
Measures of Well-Being in 2006 ( WB )
Current earned income ($) Log of current earned income of respondent
Family income ($) Log of family income of respondent
Physical Component Summary score Summary score for a brief inventory of self-reported physical
health of respondent
Self-esteem score Self-esteem score of respondent
Mental Component Summary score Summary score for a brief inventory of self-reported mental
health of respondent
Risky Financial Investment in 2004 ( F )
Ratio of risky financial assets to Ratio of risky financial assets to financial assets of respondent
financial assets
Dollar amount of stocks ($) Log of dollar amount of stocks held by respondent
Education Investment in 2004 ( E )
Years of schooling Number of years of schooling of respondent
Objective measures of risk tolerance in 1979
Stealing Risk tolerance derived from items 1, 3, 4, 5, 14, 15, and 16
Drug use and sales Risk tolerance derived from items 9, 10, and 11
Fighting and attacking Risk tolerance derived from items 2, 7, 8, and 13
Earning criminal income Risk tolerance derived from items 6, 12, 17, and 18
Survey-based risk tolerance in 1993
Most risk tolerant 1 = respondent was most risk tolerant in 1993; 0 = otherwise
Moderately risk tolerant 1 = respondent was moderately risk tolerant in 1993; 0 =
otherwise
Weakly risk tolerant 1 = respondent was weakly risk tolerant in 1993; 0 =
otherwise
Least risk tolerant 1 = respondent was least risk tolerant in 1993; 0 = otherwise
Survey-based risk tolerance in 2002
Most risk tolerant 1 = respondent was most risk tolerant in 2002; 0 = otherwise

Continued

Table 4.3: Measurement of Dependent and Independent Variables

88
Table 4.3 Continued

Variables Measurement
Moderately risk tolerant 1 = respondent was moderately risk tolerant in 2002; 0 =
otherwise
Weakly risk tolerant 1 = respondent was weakly risk tolerant in 2002; 0 =
otherwise
Least risk tolerant 1 = respondent was least risk tolerant in 2002; 0 = otherwise
Survey-based risk tolerance in 2004
Most risk tolerant 1 = respondent was most risk tolerant in 2004; 0 = otherwise
Moderately risk tolerant 1 = respondent was moderately risk tolerant in 2004; 0 =
otherwise
Weakly risk tolerant 1 = respondent was weakly risk tolerant in 2004; 0 =
otherwise
Least risk tolerant 1 = respondent was least risk tolerant in 2004; 0 = otherwise
Net Worth in 2004 ( W2004 ) Net worth of respondent in 2004

Net Worth in 2000 ( W2000 ) Net worth of respondent in 2004

Income ( I )
Total family income Log of total family income of respondent in 2003
Preference Characteristics ( P )
Age Age of respondent in 2004
Male 1 = respondent is male; 0 = female
Race and ethnicity
Non-Black, non-Hispanic White 1 = respondent is non-Black, non-Hispanic White and other; 0
and other = otherwise
Hispanic 1 = respondent is Hispanic; 0 = otherwise
Black 1 = respondent is Black; 0 = otherwise
Married in 1980 1 = respondent was married in 1980; 0 = otherwise
Presence of children in 1980 1 = respondent had any children in 1980; 0 = otherwise
Individual ability Armed Force Qualification Test scores of respondent in 1981
Education level of father Number of years of schooling of respondent’s father

Continued

89
Table 4.3 Continued

Variables Measurement
Education level of mother Number of years of schooling of respondent’s mother
Number of siblings Number of siblings respondent had in 1979
Education level of oldest sibling Number of schooling of the oldest sibling in 1979
Marital status2004
Married 1 = respondent was married in 2004; 0 = otherwise
Never married 1 = respondent was never married in 2004; 0 = otherwise
Separated, divorced, or widowed 1 = respondent was separated, divorced, or widowed in 2004;
0 = otherwise
Self-employed in 2004 1 = respondent was self-employed in 2004; 0 = otherwise
Presence of children2004 1 = respondent had any children in 2004; 0 = otherwise
Family size Number of people having qualifying relationships in
household in 2004
Inherited wealth 1 = respondent received any property or money from any
estates, trusts, inheritances, or gifts from relatives, or received
settlement from life insurance in 2004; 0 = otherwise
Primary home ownership 1 = respondent owned/bought the house/apartment in which
he/she lived in 2004; 0 = otherwise
Secondary home ownership 1 = respondent owned any other property such as a second
home or a time-share in 2004; 0 = otherwise
Control Variables ( X E , X F , X WB )

Region of residence
Northeast 1 = respondent lived in the Northeast in 2004; 0 = otherwise
North Central 1 = respondent lived in the North Central region in 2004; 0 =
otherwise
South 1 = respondent lived in the South in 2004; 0 = otherwise
West 1 = respondent lived in the West in 2004; 0 = otherwise
SMSA 1 = respondent lived in SMSA in 2004; 0 = otherwise
Born in the US 1 = respondent was born in the U.S.; 0 = otherwise
Lived in Urban area at age 14 1 = respondent lived in urban area at age 14; 0 = otherwise

90
4.5.2 Independent Variables

Measures of Risk Tolerance

Two methods are used to derive individual risk tolerance. Following previous

studies (e.g. Fairlie, 2002; Barsky et al., 1997), individuals’ responses to the frequency of

participating in 17 illegal activities which may be against the rules or the law plus one

illegal income question in 1979 are used to create indices of risk tolerance. In each illegal

activity question (See Appendix B), respondents were asked to choose one among the

seven categories which best described the number of times they have engaged in each

activity. In the illegal income question, respondents reported the proportion of their total

income that came from illegal activities by choosing one within the six categories.

Indices of risk tolerance are derived objectively by conducting a principal component

analysis (PCA), which is a data reduction technique that transforms the original set of 18

activities into a new set of uncorrelated linear combinations of the original activities,

namely the principal components (Meyers, Gamst, & Guarino, 2006). In the first step, the

18 responses of each respondent are standardized due to different scales of questions.

Second, a correlation matrix is presented to show correlations between pairs of illegal

activities. According to eigenvalue criterion and the result of Scree test, four components

are retained. A rotated component matrix is then created to indicate the weights of the 18

activities and the relationship between each of the activities contained in the linear

combination and the component as a whole, where each component represents a set of

activities that are relatively strongly related to each other. The last step is to sum up the

scores of activities that load on the same component in order to create a continuous,

91
objective measure of risk tolerance. This method generates four indices of risk tolerance:

Stealing, drug use and sales, fighting and attacking, and earning criminal income.

The other measure of risk tolerance is derived based on responses to the

hypothetical income risk questions in the 1993, 2002, and 2004 waves. All of the

respondents were first asked:

“Suppose that you are the only income earner in the family, and you have a good job

guaranteed to give you your current (family) income every year for life. You are given the

opportunity to take a new and equally good job, with a 50-50 chance that it will double

your (family) income and a 50-50 chance that it will cut your (family) income by a third.

Would you take the new job?”

The NLSY79 offered respondents who are willing to take the new job another option:

“Suppose the chances were 50-50 that it would double your (family) income and 50-50

that it would cut it in half. Would you still take the new job?”

For respondents who are not willing to take the new job, the NLSY79 asked them:

“Suppose the chances were 50-50 that it would double your (family) income and 50-50

that it would cut it by 20 percent. Would you take the new job?”

Responses to these hypothetical questions classify respondents into one of the following

categories (See Figure 4.2) that follows Rosen and Wu (2003) and Spivey (2007): Most

risk tolerant (if respondents accepted both offers in the first and second gambles);

moderately risk tolerant (if respondents accepted the first offer but rejected the second

one); weakly risk tolerant (if respondents refused the first offer but accepted the third

one); and least risk tolerant (if respondents refused the first and third offers).

92
Gamble 1 (cut income by 1/3)

New Old

Gamble 2 (cut income by 1/2) Gamble 3 (cut income by 1/5)

New Old New Old

Most Moderately Weakly Least


Risk Tolerant Risk Tolerant Risk Tolerant Risk Tolerant

Figure 4.2: Categories of Survey-Based Risk Tolerance

One concern for this method is that most respondents answered the questions

when they have finished their education (Chen, 2003), making it difficult to determine if

risk tolerance varies with education level or the opposite. Even though respondents are

likely to answer questions depending on specific risk tolerance, accumulated wealth, and

background risk as perceived in the same year when these questions were asked (Belzil &

Leonardi, 2007), this survey-based measure is useful for tracking risk tolerance pattern

and understanding the relative explanatory powers of risk tolerance measures captured at

different points of time on risky investments.

93
Net Worth and Total Family Income

The 2000 net worth is a continuous predictor of risky financial investments. Net

Worth measured as the sum of the net value of risky and risk-free assets is calculated

according to Zagorsky (2007) that is consistent with previous studies (e.g. Hariharan et

al., 2000; Bajtelsmit et al., 1999): sum of home value, cash saving, values of stocks,

bonds, and mutual funds, trusts, value of business (farm) assets, car value, possession

value, and values of IRA, 401K, and CDs, minus mortgage value, property debt value,

business (farm) debts, car debt, and other debts. Total family income relates to demand

for risky financial assets because it represents economic resources held for consuming,

saving, or investing. The 2003 total family income is measured as a continuous predictor

that follows Sahm (2007), Kimball et al. (2005), and Xiao et al. (2001). This study uses

natural logarithm transformation because the distribution of total family income is right-

skewed. Net worth in 2004 and total family income in 2003 are also included to predict

physical well-being and psychological well-being in 2006, with the 2003 total family

income being logarithmic transformed. This study does not include these two variables in

the economic well-being equation because the main purpose is to examine individual

well-being at a specific time point, rather than the change of well-being across time.

Investments in Education and Risky Financial Assets

Education investment in terms of years of schooling is a predictor variable in

determining the 2006 economic, physical, and psychological well-being. Years of

schooling is also an independent variable of risky financial investments in 2004 assuming

94
that most respondents received education when young and the accumulated human

capital influences their risky financial investment decision because the educated are

capable of collecting and understanding financial information. In accordance with the

conceptual framework as depicted in Figure 3.2, the ratio of financial assets that was

allocated to risky financial assets, including stocks, corporate bonds or government

securities, and mutual funds, and dollar amount of stocks held by an respondent in 2004

are not only dependent variables but also independent variables to explain individual

disparity in well-being in each dimension in 2006.

Preference Factors

In order to capture an individual’s preferences which are given outside of the

theoretical of risky decision making, the current study includes vectors of exogenous

predictors represented by X E ,k , X F ,k , and X WB ,k in Equations (4.1)-(4.3), respectively, to

account for preference differences. Common individual-level information in Equations

(4.1)-(4.3) includes age, gender, and race and ethnicity which were collected in the 2004

wave. Age is measured as a continuous variable. Gender is a dichotomous variable

indicating whether a respondent is male or female. A race and ethnicity variable classifies

respondents into Hispanics, Blacks, and non-Black, non-Hispanic Whites or others.

Individual-level information that is unique in Equations (4.1) includes marital

status, presence of children, and individual ability. Family-level characteristics include

parental education, the number of sibling, and education level of the oldest sibling. A

marital status variable indicates whether a respondent was married in 1980. The presence

95
of children variable indicates whether a respondent had any children in 1980. The

respondents’ ability is evaluated using the Armed Force Qualification Test (AFQT)

scores that consist of four tests such as a vocabulary test, a mathematics test, a reading

comprehension test, and an analytical test because these scores are highly correlated with

general intelligence. While the AFQT score is a good indicator of general intelligence, it

strongly positively correlates with age, which means older respondents are considered

more intelligent than younger ones (Zagorsky, 2007). The current study follows

Zagorsky’s regression framework to recalculate an AFQT score that adjusts to one’s age.

Parental education (father and mother), number of siblings, and the highest grade

completed by the oldest sibling are measured as continuous variables.

Unique individual-level information in Equation (4.2) includes marital status,

self-employment status, and presence of children in 2004. Family-level information in

Equation (4.2) includes family size, inherited wealth, primary home ownership, and

secondary home ownership in 2004. A marital status variable classifies respondents into

three categories indicating whether a respondent was married, never married, or

separated, divorced, or widowed. Self-employment status is measured as a binary

variable indicating whether a respondent was self-employed or not. Presence of children

indicates whether a respondent had any children. Family size is measured as a continuous

variable. Inherited wealth is measured as a binary variable to capture whether a

respondent received any property or money from any estates, trusts, inheritances, or gifts

from relatives, or received settlement from life insurance. Primary home ownership is

measured as a binary variable indicating whether a respondent owned or bought the

96
house or apartment in which he/she lived. Secondary home ownership variable indicates

whether a respondent had a second home or a time-share.

Individual-level information, including marital status, self-employment, and

presence of children in 2004, and family-level information such as family size in 2004

are also included in Equation (4.3).

Control variables

Region of residence in the year of 2004 is included as a control variable in

Equations (4.1)-(4.3). The 2004 region of residence is measured as categorical variables

to capture whether a respondent lived in the Northeast, the North Central region, the

South, or the West in 2004. Region of residence at age 14 is a unique control variable in

Equation (4.1), indicating whether a respondent lived in an urban area or not at age 14.

SMSA status and country of birth are unique control variables in Equation (4.3). SMSA

status indicates whether a respondent lived in an SMSA or not in 2004. Country of birth

is measured as a categorical variable to capture whether a respondent was born in the U.S.

or in other countries.

4.6 Description of the Sample

This section describes the young baby boomer generation in terms of their

individual well-being in economic, physical, and psychological dimensions, investment

decisions in risky financial assets and human capital in the form of education, the level of

risk tolerance, net worth, total family income, and preference characteristics. Table 4.4

presents the characteristics of the young baby boomer sample used in the current study.

97
Frequency/ Mean
Variables S.E.
Percent (median)
Measures of Well-Being in 206 ( WB )
Current earned income ($) $45,803 $51,127
($35,000)
Family income ($) $46,583 $41,966
($38,000)
Physical Component Summary score 52.50 7.55
(55.26)
Self-esteem score 33.79 4.34
(34.00)
Mental Component Summary score 53.42 7.83
(55.87)
Risky Financial Investment in 2004 ( F )
Ratio of risky financial assets to financial assets 0.44 0.47
(0.00)
Dollar amount of stocks ($) $21,818 $146,033
($0.00)
Education Investment in 2004 ( E )
Years of schooling 13.63 2.43
(13.00)
Objective measure of risk tolerance in 1979
Stealing 0.20 0.36
(0.00)
Drug use and sales 0.68 1.03
(0.00)
Fighting and attacking 0.36 0.52
(0.25)
Earning criminal income 0.09 0.27
(0.00)

Continued

Table 4.4: Description of the Young Baby Boom Sample

98
Table 4.4 Continued

Frequency/ Mean
Variables S.E.
Percent (median)
Survey-based risk tolerance in 1993
Most risk tolerant 789 / 23.04
Moderately risk tolerant 597 / 17.43
Weakly risk tolerant 455 / 13.28
Least risk tolerant 1,584 / 46.25
Survey-based risk tolerance in 2002
Most risk tolerant 568 / 16.58
Moderately risk tolerant 557 / 16.26
Weakly risk tolerant 381 / 11.12
Least risk tolerant 1,919 / 56.03
Survey-based risk tolerance in 2004
Most risk tolerant 491 / 14.34
Weakly risk tolerant 492 / 14.36
Moderately risk tolerant 594 / 17.34
Least risk tolerant 1,848 / 53.96
Net Worth in 2004 ( W2004 ) $228,535 $429,766
($96,500)
Net Worth in 2000 ( W2000 ) $158,724 $334,625
($58,650)
Income ( I )
Total family income in 2003 $72,266 $67,156
($58,613)

Preference Characteristics ( P )
Age of respondent in 2004 43.05 2.22
(43.00)
Male 1,681 / 49.08
Race and ethnicity of respondent
Non-Black, non-Hispanic Whites and others 2,054 / 59.97

Continued

99
Table 4.4 Continued

Frequency/ Mean
Variables S.E.
Percent (median)
Hispanic 584 / 17.05
Black 787 / 22.98
Married in 1980 418 / 12.20
Presence of children in 1980 334 / 9.75
Individual ability of respondent 36.67 28.78
(35.10)
Education level of respondent’s father 11.12 3.86
(12.00)
Education level of respondent’s mother 11.15 3.05
(12.00)
Number of siblings of respondent 3.60 2.51
(3.00)
Education level of oldest sibling of respondent 12.69 3.57
(12.00)
Marital status in 2004
Married 2,191 / 63.97
Never married 477 / 13.93
Separated, divorced, or widowed 757 / 22.10
Self-employed in 2004 288 / 8.41
Presence of children in household in 2004 2,321 / 67.77
Family size of respondent in 2004 3.16 1.53
(3.00)
Received inheritance in 2004 272 / 7.94
Primary home owned in 2004 2,446 / 71.42
Secondary home owned in 2004 344 / 10.04

Control Variables ( X E , X F ,
X WB )
Region of residence in 2004
Northeast 469 / 13.69

Continued

100
Table 4.4 Continued

Frequency/ Mean
Variables S.E.
Percent (median)
North Central 923 / 26.95
South 1,356 / 39.59
West 677 / 19.77
Lived in urban area at age 14 2,663 / 77.75
SMSA 2,798 / 81.69
Born in US 3,230 / 94.31
Note: Sample size = 3,425.

Individual Well-Being

Among the 3,425 young baby boomers, the mean and median values of current

earned income in 2006 are $45,803 and $35,000, respectively, and the means and median

values of family income at an individual level in 2006 are $46,583 and $38,000,

respectively, showing a right-skewed distribution of current earned income and family

income. That is, most of the young baby boomers have a smaller amount of earned

income and family income while there are a few who have exceptionally a large amount.

Note that the standard deviations of both indicators also show a substantial dispersion in

economic well-being across the young baby boomers. Despite inequality, the two

indicators suggest that the young baby boomers have better economic well-being than

those in terms of the earlier SCF data (e.g. Hong & Swanson, 1995) while they have

worse economic well-being compared to those in terms of the more recent SCF data (e.g.

Park & DeVaney, 2007). In terms of physical well-being, the young baby boomers have

101
the mean value of PCS-12 score of 52.50 in 2006 which is larger than 50.00, indicating

better physical health of these boomers compared to a typical person in the general U.S.

population. As for psychological well-being, the mean value of self-esteem score in 2006

is 33.79, with its value ranging from 15.00 to 40.00. Generally, the young baby boomers

have slightly higher self-esteem compared to other groups of people such as college

students (e.g. Crocker et al., 1994) or patients with certain diseases; however, self-esteem

of the U.S. general population is absent for comparison. The mean value of MCS-12

score in 2006 is 53.42, which means the young boomers have better mental health when

compared to a typical person in the general U.S. population. Altogether, the young baby

boomers as a whole have higher PCS-12 and MCS-12 scores than the general U.S.

samples (e.g. Johnson & Coons, 1998).

Investment in Risky Financial Assets

The mean value of the ratio of risky financial assets to financial assets was 0.44

(s.d. = 0.47), showing considerable dispersion in allocation of risky financial assets

among the young baby boomers. In line with previous findings (e.g. Kimball et al., 2005),

a significant proportion (52.06%) of the young baby boomers did not hold any share of

financial assets in stocks, corporate bonds or government securities, and mutual funds in

2004. Compared with other groups of people, the young baby boomers as a whole held a

larger proportion of financial assets in risky financial assets than did single females

(Jianakoplos & Bernasek, 1998) while they had a relatively smaller proportion of

financial assets held in the form of risky financial assets than single males, married

102
couples (Jianakoplos & Bernasek, 1998), and older adults (e.g. Hariharan et al., 2000).

The mean and median values of dollar amount of stocks held by the young baby boomers

in 2004 were $21,818 and $0, respectively, with its deviation of $146,033 and its range of

$7,225,800, indicating inequality with respect to stock holding across the young baby

boomers.

Investment in Education

The average years of schooling of the young boomers was 13.63 (s.d. = 2.43). All

of these boomers had at least three years of schooling and roughly 2% have 20 years of

schooling. In comparison with other groups of people in terms of education attainment

(e.g. Hariharan et al., 2000; Brown & Taylor, 2006), the young baby boomers on the

average had slightly higher education level regarding years of schooling. According to

the diploma received, the majority of the young baby boomers (93.34%) had at least a

high school degree (who had completed 12 years or more in school). More than one-

fourth (26.36%) had some college education (who had completed 13 to 15 years of

schooling in school) and 14.42% had a college education (who had completed 16 years in

school). Approximately 12% had post college education (who had completed 17 years or

more in school). The descriptive results indicate that a relatively larger proportion

(40.76%) of the young baby boomers had a high school degree while a rather smaller

proportion (26.25%) of them had college degree or higher compared to baby boomer

generation as a whole (Baek & DeVaney, 2004) or the SCF samples (e.g. Wang & Hanna,

2007).

103
Risk Tolerance

Two sets of measures of risk tolerance are provided in this study. The first set is

derived according to the responses to 17 illegal activity participation questions plus one

illegal income question in 1979. Four indices of risk tolerance are generated in light of

the PCA results, including stealing (based on 7 illegal activities), drug use and sales

(based on 3 illegal activities), fighting and attacking (based on 4 illegal activities), and

earning criminal income (based on 4 illegal activities). The mean value of risk tolerance

with respect to stealing was 0.20, ranging from 0.00 to 3.57 (s.d. = 0.36). The mean value

of risk tolerance in terms of drug use and sales was 0.68, ranging from 0.00 to 5.00 (s.d.

= 1.03). The range of risk tolerance regarding fighting and attacking was from 0.00 to

4.25, with its mean value of 0.36 and its deviation of 0.52. The value of risk tolerance in

terms of earning criminal income ranged from 0.00 to 3.75, with its mean value of 0.09

and its deviation of 0.27. The four indices consistently show an extremely low level of

objective risk tolerance of the young baby boomer generation.

The second set of risk tolerance measures is derived from the hypothetical income

risk questions in 1993, 2002, and 2004 waves. In terms of responses to these income risk

questions in 1993, roughly 46% of the young baby boomers were classified as the least

risk tolerant and approximately one-fifth (23.04%) of them were the most risk tolerant in

1993. The patterns of risk tolerance distribution in 2002 and 2004 waves are similar to

that in 1993; however, the percentage of the young baby boomers who were in the most

risk tolerant category was continuously decreasing from 23.04% in 1993 to 14.34% in

2004. The percentage of the young baby boomers who were in the least risk tolerant

104
category was the highest in 2002 (56.03%), followed by 2004 (53.96%) and 1993

(46.25%). In line with previous findings based on the SCF data (e.g. Sung & Hanna, 1996;

Rha, Montalto, & Hanna, 2006), the NLSY79 sample consistently shows that a

substantial proportion of the young baby boomers are not willing to take any risks.

Compared to those that used the HRS data (e.g. Sahm, 2007; Kimball et al., 2005; Barsky

et al., 1997), the patterns of distribution of risk tolerance are similar while a relatively

smaller proportion of the young baby boomers were classified as the least risk tolerant

and a larger proportion of them were classified as the most risk tolerant. In sum, most of

the young baby boomers were not willing to take any risks; however, they on the average

had higher risk tolerance than older adults.

Notice that the objective measures of risk tolerance in 1979 and the survey-based

measures of risk tolerance in 1993, 2002, and 2004 are positively correlated (See Table

4.5), which means that the young boomers who were willing to take more risks or who

were more risk tolerant in the past will be classified into a more risk tolerant category in

the future. Furthermore, the correlations of measures of risk tolerance within methods are

stronger than those between methods.

105
Pearson Correlation Coefficients, n = 3,425
steal drug fighting criminc rt_93 rt_02 rt_04
steala 1.00000 0.43042 0.52102 0.50331 0.04783 0.06207 0.05037
<.0001 <.0001 <.0001 0.0051 0.0003 0.0032
drugb 1.00000 0.28596 0.40600 0.04802 0.04749 0.02981
<.0001 <.0001 0.0049 0.0054 0.0811
fightingc 1.00000 0.40475 0.02584 0.05874 0.03319
<.0001 0.1305 0.0006 0.0521
crimincd 1.00000 0.04398 0.04407 0.04077
0.0100 0.0099 0.0170
rt_93e 1.00000 0.20652 0.21475
<.0001 <.0001
rt_02f 1.00000 0.28102
<.0001
rt_04g 1.00000

Note: a Risk tolerance based on stealing-related activities in 1979; b Risk tolerance based
on drug use and sales in 1979; c Risk tolerance based on fighting and attacking people in
1979; d Risk tolerance based on earning criminal income in 1979; e Risk tolerance in
1993 (0: least risk tolerant; 3: most risk tolerant); f Risk tolerance in 2002; g Risk
tolerance in 2004.

Table 4.5: Correlations between measures of risk tolerance

Net Worth and Total Family Income

The mean value of net worth in 2004 was $228,535 and its median value was

$96,500. The mean and median of net worth in 2000 were $158,724 and $58,650,

respectively. These figures are extremely smaller than those of business owners while

they are relatively larger when compared to those of non-business owners (e.g. Xiao et al.,

2001). In addition, the young boom generation had higher level of wealth compared to

general samples from the SCF data, regardless of gender and marital status (e.g.

Bajtelsmit et al., 1999; Jianakoplos & Bernasek, 1998). However, the young boomer

generation had lower level of mean wealth compared to older adults in terms of the HRS

106
data (e.g. Hariharan et al., 2000). The mean value of total family income of the young

baby boomers in 2003 was $72,266 and the median value was $58,613. Compared to

other groups of people, the young baby boomers had a lower family income level than

did business owners but a higher family income level than did non-business owners (Xiao

et al., 2001; Wang & Hanna, 2007). Additionally, the mean value of total family income

for the young baby boomers as a whole was smaller than that of Whites while it was

larger than that of Blacks (Gutter & Fontes, 2006).

Preference Characteristics

The average age of the respondents in 2004 was 43.05, ranging from 39 to 48.

The proportion of females (50.92%) in 2004 was slightly larger than that of males

(49.08%), consistent with the gender distribution of the general baby boom population in

the U.S. In terms of race and ethnicity, roughly three-fifths (59.97%) of the young baby

boomers were non-Black, non-Hispanic Whites and others, 22.98% are Blacks, and

17.05% are Hispanics. As for earlier preference factors, around 12% were married and

10% had children in 1980. The mean value of the adjusted average AFQT score was

36.67 (s.d. = 28.78). The mean value of years of schooling of both father and mother of

the young baby boomers was roughly 11 years. The average number of siblings a

respondent had was 3.60 and the average year of schooling of the oldest sibling was

12.69 years. Compared to other groups of people in previous studies (e.g. Brown &

Taylor, 2006), the young boomers have on the average more siblings. In terms of 2004

preference characteristics, roughly 64% of the young baby boomer generation were

107
married and more than one-fifth (22.10%) of them were separated, divorced, or widowed.

8.41% of the young boomers reported that they were self-employed in 2004 and 91.59%

worked for government, private companies, non-profit organizations, or family business,

showing a relatively smaller proportion of self-employment compared to those reported

in literature (e.g. Gutter & Fontes, 2006). The average family size in 2004 was 3.16 and

more than two-thirds (67.77%) of the young boomers had children in household in 2004.

Both numbers were larger than those presented in previous studies (e.g. Gutter & Fontes,

2006; Bajtelsmit, 1999; Wang & Hanna, 2007), implying a heavier burden borne by the

young baby boomers compared to the general U.S. regarding taking care of their family

members. population. Surprisingly, merely 7.94 % of the young baby boomers have

received properties or money from any estates, trusts, inheritances, or gifts from relatives

or received $10,000 or more as the beneficiary of a life insurance settlement in 2004.

Roughly 71% of the young boomers owned the home in which they lived, which is

comparable with other samples in literature (e.g. Jianakoplos & Bernasek, 1998; Gutter &

Fontes, 2006; Baek & DeVaney, 2004; Bajtelsmit et al., 1999). Roughly 10% of the

young baby boomers owned other property such as a second home or a time-share.

Control Variables

The descriptive statistics show that around 40% of the young baby boomers lived

in the South and merely 14% lived in the Northeast in 2004. The majority of the young

boomers lived in an SMSA (81.69%) in 2004. Roughly 94% of the young baby boomers

were born in the U.S. and 78% lived in an urban area at age 14.

108
CHAPTER 5

RESULTS AND DISCUSSION

Results of multivariate data analysis regarding the effects of investments in

education and risky financial assets on multiple dimensions of individual well-being are

presented and discussed in this chapter. The chapter is divided into three sections. The

first section is the multivariate results for investment in education and investment in risky

financial assets. In the second and the third sections, the multivariate results for each

dimension of individual well-being are reported and discussed. A summary of the

empirical results is presented in the last section.

5.1 Investment in Education and Investment in Risky Financial Assets

Table 5.1 shows the results of simultaneous equation models for risky investment

decisions in education and risky financial assets. Two models with different measures of

risky financial investment are presented and discussed. The first stage of estimating

coefficients for risky financial investments is to regress years of schooling on exogenous

variables in the system of simultaneous equations. The estimated value of years of

schooling ( Ê k ) is then calculated. The second stage is to replace E k with Ê k in the

estimation of risky financial investments.

109
Model I Model II
Years of Ratio of risky Years of Dollar
schooling financial assets schooling amounts of
to financial stocks in 2004
assets in 2004
(E) ( F1 ( Eˆ ) ) (E) ( ln F2 ( Eˆ ) )
Variables Coeff. Coeff. Coeff. Coeff.

Objective measure of risk tolerance in 1979 (  R )


Stealing 0.007 0.038 0.007 0.398
(0.116) (0.028) (0.116) (0.269)
Drug use and sales -0.190*** -0.012 -0.190*** -0.150*
(0.036) (0.009) (0.036) (0.083)
Fighting and attacking -0.142* 0.013 -0.142* 0.193
(0.074) (0.018) (0.074) (0.172)
Earning criminal income -0.168 -0.014 -0.168 -0.009
(0.143) (0.034) (0.143) (0.331)
Net worth in 2000 ( W ) 1.242E-7*** 2.231E-6***
(2.498E-8) (2.43E-7)
Total family income in 2003 ( ln I ) 0.022*** 0.219***
(0.005) (0.052)

Education investment in 2004 ( Ê )


Years of schooling 0.061*** 0.662***
(0.006) (0.057)
Preference characteristics ( P )
Age of respondent in 2004 0.108*** 0.003 0.108*** 0.037
(0.016) (0.003) (0.016) (0.034)
Male -0.266*** 0.017 -0.266*** 0.211
(0.067) (0.016) (0.067) (0.155)
Race/ethnicity
Hispanic 0.442*** -0.031 0.442*** -0.258
(0.104) (0.023) (0.104) (0.221)

Continued

Table 5.1 Results of Simultaneous Equations Models with Education Investment and
Risky Financial Investment
110
Table 5.1 Continued

Model I Model II
Years of Ratio of risky Years of Dollar
schooling financial assets schooling amounts of
to financial stocks in 2004
assets in 2004
(E) ( F1 ( Eˆ ) ) (E) ( ln F2 ( Eˆ ) )
Variables Coeff. Coeff. Coeff. Coeff.
Black 0.785*** -0.013 0.785*** -0.295
(0.090) (0.021) (0.090) (0.200)
Married in 1980 -0.768*** -0.768***
(0.116) (0.116)
Presence of children in 1980 -0.369*** -0.369***
(0.127) (0.127)
Individual ability 0.043*** 0.043***
(0.001) (0.001)
Education level of father 0.064*** 0.064***
(0.011) (0.011)
Education level of mother 0.065*** 0.065***
(0.015) (0.015)
Number of siblings of respondent -0.061*** -0.061***
(0.014) (0.014)
Education level of oldest sibling 0.093*** 0.093***
(0.009) (0.009)
Marital status in 2004
Never married -0.023 -0.141
(0.027) (0.268)
Separated, divorced, or widowed -0.026 -0.195
(0.023) (0.221)
Self-employed in 2004 0.039 0.349
(0.027) (0.265)
Presence of children in 2004 -0.020 -0.209
(0.023) (0.228)

Continued

111
Table 5.1 Continued

Model I Model II
Years of Ratio of risky Years of Dollar
schooling financial assets schooling amounts of
to financial stocks in 2004
assets in 2004
(E) ( F1 ( Eˆ ) ) (E) ( ln F2 ( Eˆ ) )
Variables Coeff. Coeff. Coeff. Coeff.
Family size in 2004 0.008 0.063
(0.008) (0.075)
Had inherited wealth in 2004 0.028 0.377
(0.029) (0.278)
Primary home owned in 2004 0.121*** 1.299***
(0.020) (0.196)
Secondary home owned in 2004 0.103*** 1.291***
(0.026) (0.253)

Control variables ( X E , X F , X WB )

Region of residence in 2004


Northeast -0.214** 0.041* -0.214** 0.549**
(0.101) (0.024) (0.101) (0.232)
North Central -0.292*** 0.049** -0.292*** 0.493***
(0.082) (0.019) (0.082) (0.189)
West -0.114 -0.001 -0.114 -0.010
(0.091) (0.022) (0.091) (0.212)
Urban-country residence at age 14
Urban 0.077 0.077
(0.078) (0.078)
Intercept 5.276*** -0.913*** 5.276*** -10.243***
(0.686) (0.174) (0.686) (1.694)
Sample size = 3,425
Test of model fit F-value: F value: F-value: F-value:
137.63 32.27 137.63 46.68
Pr>F: Pr>F: Pr>F: Pr>F:
<.0001 <.0001 <.0001 <.0001
Adj. R2: Adj. R2: Adj. R2: Adj. R2:
0.43122 0.16729 0.43122 0.22691
*Significant at p<0.1; **Significant at p<0.05; ***Significant at p<.01.
Note: Standard errors are in the parentheses.
112
5.1.1 Multivariate Results for Model I

In this section, the results for Model I, where investment in education was

captured by years of schooling and investment in risky financial assets was measured by

ratio of risky financial assets to financial assets in 2004, are presented and discussed.

The simultaneous equations estimates for years of schooling are reported in the

first column of Table 5.1. The F-test for the education equation has a p-value of less than

0.0001, indicating that the overall model for years of schooling is significant. The

adjusted R2 is 0.43, meaning that approximately 43% of variation in years of schooling is

explained by the predictor variables. Objective risk tolerance in 1979 and preference

characteristics (i.e., age, gender, race and ethnicity, marital status in 1980, presence of

children in 1980, individual ability (i.e., AFQT score), parental education, number of

siblings, and education level of the oldest sibling) are statistically significant predictors of

years of schooling at the level of 0.05 or less. A control variable indicating region of

residence in 2004 is also significant.

An objective measure of risk tolerance which was derived from the 1979 illegal

activity participation was negatively associated with investment in education at the level

of less than 0.0001, suggesting that the young baby boomers who were less risk tolerant

as indicated by the drug use and sales domain of risk in 1979 had higher education

attainment. On average, if a young baby boomer’s objective risk tolerance under the drug

use and sales domain increased by one unit, his/her years of schooling decreased by

approximately 0.19 years, all else considered. In order to compare the explanatory

powers of risk tolerance derived using different methods and at different time points, this

113
study alternatively employed the 1993 survey-based measure of risk tolerance to predict

education investment of the young boomers.4 The reason that the survey-based measures

of risk tolerance in 2002 and 2004 were not included as predictor variables is because

individuals tend to invest in human capital in the form of education when young. Thus,

most of the young baby boomers might have finished their education at the time when

they were asked to answer the 2002 and 2004 hypothetical income risk questions.

Contrary to the hypothesis, the result showed that the 1993 survey-based measures of risk

tolerance were not significant predictors of education investment at the level of 0.05

without controlling for the 1979 objective measure of risk tolerance.5 The 1993 survey-

based measures of risk tolerance were also non-significant in the model where both

objective measures and survey-based measures were included.

4
The simultaneous equations estimates results for years of schooling where risk tolerance
was captured by the 1993 survey-based measures and the 1993 survey-based measures as
well as the 1979 objective measures are presented in Table C.1 of Appendix C.
5
That the 1979 objective measures of risk tolerance had negative effects and the 1993
survey-based measure of risk tolerance had a positive effect on years of schooling may be
due to the timing of making education investment decisions and measuring individual
risk tolerance. People tend to invest in education when young; for this reason, the 1979
objective measures had significant negative effects on years of schooling assuming that
education investment is one type of insurance. As these people accumulate more skills
and knowledge via education, they may feel more comfortable taking risks, resulting in a
positive relationship between years of schooling and the 1993 survey-based measures.
Another explanation for the inconsistent results may be due to the relative risk associated
with education investment made in different life stages. Generally, a risk-averse young
baby boomer might prefer education to the labor market if he/she perceives the risk in the
labor market to be greater than continuing with his/her schooling. As one ages,
investment in education may become riskier because he/she has accumulated more
experiences and had higher wage rate in the labor market.
114
As documented in many studies, preference characteristics of individuals affected

their decision about education investment. In terms of characteristics at an individual

level, older young boomers had higher education attainment than their younger

counterparts, which is in accord with Guiso and Paiella (2004). On average, a young baby

boomer’s years of schooling increased by roughly 0.11 years for each additional year of

age, other things being equal. Male young baby boomers were found to be less likely to

invest in education, with the years of schooling of males being 0.27 years fewer than

those of females. This result is consistent with Chen (2003) that females were more likely

to enroll in college. The gender-education relationship is also in accord with Belzil and

Leonardi (2007) that females had a lower probability of leaving school and with Kodde

(1986) that males had a lower probability of demanding additional education. The

estimated impact of race is that the years of schooling of Blacks and Hispanics were

roughly 0.79 years and 0.44 years, respectively, more than those of non-Black, non-

Hispanic Whites and others. The result is in accord with Chen, who noted that African-

Americans were more likely to invest in college education. Marital status when young

also played a role in predicting education investment, with the young boomers who were

married in 1980 having 0.77 years fewer of schooling than their single counterparts. The

young baby boomers who had children in 1980 also had 0.37 years fewer of schooling

than those who did not have any children at that time, implying additional time and

financial constraints faced by those with children. Individual ability evaluated in terms of

the AFQT score was significantly positively related to years of schooling, showing that

education level increased by roughly 0.04 years for each additional point on the AFQT

115
score. The AFQT score effect is even stronger than that in Chen’s study.

Other preference characteristics were significant predictors at a family level. First

of all, there was a positive relationship between education level of the young boomers’

father and education level of the young boomers themselves. The positive relationship

held true for education level of the young boomers’ mother and that of the young

boomers themselves. Specifically, years of schooling of the young baby boomers

increased by about 0.064 years and 0.065 years, respectively, if years of schooling of

father and mother of these young baby boomers increased by one year. Both parental

education variables were significant with p-values less than 0.0001 and the direction of

the effects is in accordance with that in Chen (2003). In addition, education level of the

oldest sibling also had a positive effect on education attainment of the young boomers,

which means that if years of schooling of the oldest sibling increased by one year, years

of schooling of the young boomers increased by approximately 0.1 years. However, the

number of siblings had a negative effect on years of schooling. On average, an additional

sibling decreased years of schooling of the young baby boomers by approximately 0.061

years, suggestive of money constraints of households. Last, the young baby boomers who

lived in the Northeast in 2004 had about 0.21 years fewer of schooling than their

Southern counterparts. The young baby boomers who lived in the North Central region in

2004 had 0.29 years fewer of schooling compared to their Southern counterparts.

It is important to note that the current study did not follow previous studies (e.g.

Brown, Ortiz et al., 2006) by incorporating working status or occupations of parents in

the model for predicting education investment. The reason of dropping these variables is

116
that the working status or occupations of parents are strongly associated with parental

education.

The simultaneous equations estimates for risky financial investment measured by

ratio of risky financial assets to financial assets are reported in the second column of

Table 5.1. The F-test for this model has a p-value of less than 0.0001, indicating that the

overall model is significant. The adjusted R2 suggests that roughly 16.7% of variation in

ratio of risky financial assets to financial assets is explained by the predictor variables.

The following variables are statistically significant at the 0.05 level or less: net worth in

2000, total family income in 2003, investment in education (i.e. years of schooling),

primary home ownership, secondary home ownership, and region of residence in 2004.

The young baby boomers’ objective indicators of risk tolerance were not

statistically significantly related to the proportion of financial assets allocated to stocks,

corporate bonds or government securities, and mutual funds at the 0.05 level. However,

the four objective measures in 1979 had discrepant effects in determining financial

investment in risky assets. First of all, less risk tolerant young baby boomers under the

drug use and sales domain and the earning criminal income domain held a larger

proportion of their financial assets in the form of risky assets. On the contrary, more risk

tolerant young baby boomers under the constructs of stealing and fighting and attacking

had a larger ratio of risky financial assets to financial assets. The inconsistent results as

well as the significant correlation coefficients between the four objective measures shown

in Table 4.5 may provide evidence for supporting Dohmen et al. (2005), who concluded

that the average willingness to take risk is different across domains, even though risk

117
parameters across domains are associated with one another. However, the evidence is

weak at best. The negative relationship between the objective measures of risk tolerance

and the ratio value may come from the fact that the young baby boomers are not willing

to takes risks in both earning income and investing in the financial market which affect

their income resources. It is also possible that the derived indices capture other personal

characteristics, rather than individual risk tolerance. The current study also included

survey-based measures of risk tolerance in different years to predict ratio of risky

financial assets to financial assets in 2004, with and without controlling for the 1979

objective measures of risk tolerance, for the purpose of comparison. Consistently, none of

the survey-based measures of risk tolerance in 1993, 2002, and 2004 were significant

predictors of risky financial investments in 2004, with and without controlling the 1979

objective measures, at the 0.05 level. Though surprising, the non-significant results may

be in line with Barsky et al. (1997), who argued that the relationship between risk

tolerance and risky financial asset holding is much weaker than theory suggests it should

be. The insignificant effect may also be due to the inclusion of the endogenously

determined education variable.

Economic resources such as net worth in 2000 and total family income in 2003

had a positive effect on ratio of risky financial assets to financial assets in 2004, which is

in line with Gutter and Fontes (2006) and Barsky et al. (1997) that the amount of

financial resources relate to portfolio allocations. Specifically, wealthier young boomers

held a larger proportion of risky financial assets, which is in accord with McInish et al.

(1993), Cohn et al. (1975), Hong et al. (2004), and Hariharan et al. (2000). The portfolio

118
proportion allocated to risky financial assets increased by 0.022 percentage points for one

unit increase in total family income, corresponding in direction to Zhong and Xiao (1995)

and Gutter et al. (1999). These positive relationships imply that risky financial assets are

normal goods, which is consistent with Deaton and Muellbauer (1980) and Arrow (1965).

As hypothesized, years of schooling were significantly positively related to share

of financial assets in risky financial assets at the less than 0.0001 level. Specifically, an

additional year increase in schooling increased ratio of risky financial assets to financial

assets by roughly 0.06, all else being equal. The positive relationship between risky

investment decisions in different domains is consistent with previous findings (e.g. Sahm,

2007; Gutter & Fontes, 2006; Kimball et al., 2005), suggesting that education attainment

leads an individual to accumulate more knowledge and skills and gain access to financial

markets. In addition, the educated young baby boomers are more capable of

understanding financial statements and may feel more comfortable calculating numbers.

Most of the preference characteristics failed to account for disparity in the

proportion of financial assets invested in risky financial assets at the 0.05 level, except for

primary home ownership and secondary home ownership. The young boomers who

owned the home in which they lived in 2004 had higher ratios of risky financial assets to

financial assets than their counterparts who did not own a home in 2004. In addition, the

young baby boomers who owned a second home in 2004 had a larger proportion of

financial assets held in the form of stocks, corporate bonds or government securities, and

mutual funds in 2004, which is in accord with Gutter and Fontes (2006) and Jianakoplos

and Bernasek (1998). Specifically, the level of financial assets to risky financial assets of

119
the young boomers who owned the home in which they lived was roughly 0.12

percentage points higher than those who did not own their home. The risky financial

asset-to-financial asset ratio of the young baby boomers who owned a second home was

roughly 0.10 percentage points higher than those who did not own a second home. Both

results imply the importance of diversification to minimize the risk associated with

investment decisions.

Region of residence in 2004 was a significant predictor of risky financial asset-to-

financial asset ratio. Compared to those who resided in the South in 2004, the young baby

boomers who lived in the North Central region in 2004 held a larger share of risky

financial assets to financial assets in 2004. There was no significant difference between

the Northeasterners and the Southerners with respect to ratio of risky financial assets to

financial assets in 2004 at the 0.05 level. Similarly, the Westerners and the Southerners

were not significantly different in terms of proportion of financial assets that was

allocated to risky financial assets.

To summarize, one of the objective measures of risk tolerance and all of the

preference characteristics included in the model were statistically significant predictors of

education attainment. On the other hand, net worth, total family income, education

investment, and home ownership were statistically significant factors that predict one’s

risky investment decisions in the financial market. The effects of these significant

predictors in the financial investment equation were so considerable that this set of

variables accounted for a relatively larger proportion of variation in the ratio of risky

financial assets to financial assets across the young baby boomers, leaving other factors

120
such as objective measures of risk tolerance (or survey-based measures of risk tolerance)

and most of the preference characteristics insignificant and less important.6

5.1.2 Multivariate Results for Model II

The results for Model II, where investment in education was captured by years of

schooling and investment in risky financial assets was measured by dollar amount

allocated to the stock market in 2004 (take natural logarithm transformation), are

presented and discussed in this section.

The parameters and standard errors for years of schooling are presented in the

third column of Table 5.1. While the discussion is omitted, details can be found in sub-

section 5.1.1.1. The simultaneous equations estimates results for dollar amount of stocks

in the year of 2004 are reported in the fourth column of Table 5.1. The F-test for this

model has a p-value of less than 0.0001, indicating that the overall model is significant.

Roughly 22.7% of variation in dollar amount of stocks is explained by the predictor

variables. The following variables are significant determinants of dollar amount of stocks

at the 0.05 level or less: net worth in 2000, total family income in 2003, years of

schooling, and preference characteristics such as primary home ownership and secondary

home ownership in 2004. The 2004 region of residence is also significant at the 0.05

level.

6
The simultaneous equations estimates for ratio of risky financial assets to financial
assets where risk tolerance was captured by the survey-based measures (See Table C.1 of
Appendix C) are consistent with those when risk tolerance was measured by the 1979
objective measures (See Table 5.1) in terms of significances and sign.
121
Risky financial investment captured by dollar amount allocated to stocks was not

significantly related to risk tolerance derived from the 1979 illegal activity participation,

consistent with the results in Model I. Similarly, the survey-based measures of risk

tolerance in 1993, 2002, and 2004 did not affect risky financial investments of the young

baby boomers when these measures replaced the objective measures of risk tolerance.

Non-significant results were also found in a model with both objective measures and

survey-based measures included. Neither objective measures nor survey-based measures

of risk tolerance accounted for ratio of risky financial assets to financial assets and dollar

amount of stocks across the young baby boomers, indicative of inappropriate measures of

risk tolerance or a trivial role of risk tolerance in predicting risky financial investments.7

Both of the economic indicators were statistically significantly associated with

dollar amount allocated to the stock market in 2004. First of all, net worth in 2000 had a

positive effect on dollar amount of stocks in 2004, even though the effect was relatively

small. Moreover, the income elasticity of dollar amount of stocks in 2004 with respect to

total family income in 2003 was approximately 0.22. These results suggest that the young

baby boomers who had more economic resources allocated a greater amount of these

economic resources in the stock market than their counterparts with fewer economic

resources, which are in line with the results found in Model I. The positive effects also

provide additional evidence that risky financial assets are normal goods.

7
The simultaneous equations estimates for dollar amount of stocks where risk tolerance
was captured by the survey-based measures in different years can be found in Table C.2
of Appendix C. Significant predictors are identical to those when risk tolerance was
measured by the 1979 objective measures in terms of signs and significances and can also
be found in Table C.2.
122
According to the theoretical model developed in the current study, portfolio

composition is associated with human capital investment. As hypothesized, dollar amount

that was allocated to stocks in 2004 was significantly positively related to human capital

in the form of education at the less than 0.0001 level. On average, an additional year of

schooling increased the level of dollar amount of stocks by 66.2%. The positive effect of

education attainment on risky financial asset possession held true across models and the

effects were similar, regardless of how risky financial investments were defined.

Two preference characteristics were significant in predicting dollar amount that

was allocated to the stock market. First of all, the young boomers who owned the home in

which they lived in 2004 had a greater amount of money in the stock market in 2004.

Moreover, the young boomers who owned other property such as a second home or a

time-share allocated more of their money to the stock market in 2004. Specifically, the

effect of being a home owner was to change dollar amount of stocks by approximately

130%, regardless of the types of home ownership. These results are in accord with those

found in Model I where risky financial investment was captured by a ratio value. The

findings in both models consistently demonstrate the significant role of other types of

assets on risky financial asset holdings.

The 2004 dollar amount of stocks held by the young baby boomers was also

dependent on the young baby boomers’ region of residence in 2004. Specifically, dollar

amount that was allocated to the stock market was roughly 55% higher in the Northeast

and 49% higher in the North Central region than that in the South.

To sum up, the significant predictors of risky financial investments are similar,

123
despite the model specifications (Model I and Model II): net worth in 2000, total family

income in 2003, years of schooling, primary home ownership in 2004, secondary home

ownership in 2004, and region of residence in 2004. The only difference between Model I

and Model II in regard to significant predictors was the South-Northeast disparity in

dollar amount of stocks. Except for the education and region of residence variables, all of

the predictors are resource-related variables, suggesting that the young baby boomers

who possess more assets in either physical or non-physical form make more risky

financial investments than those who are short of economic resources. The positive effect

between economic resources and financial investments implies the possibility of creating

a larger gap between the rich and the poor, resulting in ever increasing wealth inequity.

5.2 Well-Being in Economic, Physical, and Psychological Dimension-in terms of

Ratio of Risky Financial Assets to Financial Assets

The simultaneous equations estimates for different dimensions of individual well-

being in Model I, where risky financial investment was all captured by ratio of risky

financial assets to financial assets, are presented and discussed in this section.

5.2.1 Current Earned Income

The simultaneous equations estimates for the 2006 current earned income (take

natural logarithm transformation) are shown in the first column of Table 5.2. The F-test

for this model has a p-value of less than 0.0001, indicating that the overall model is

significant. Approximately 12% of variation in the 2006 current earned income is

explained by the predictor variables. The following variables are significant determinants

124
at the level of 0.05 or less: investment in education (i.e. years of schooling), investment

in risky financial assets (i.e. ratio of risky financial assets to financial assets), and

preference characteristics such as gender, marital status in 2004, presence of children in

2004, and family size in 2004. None of the control variables are significant at the 0.05

level.

As hypothesized, education investment was a significant factor in determining the

young baby boomers’ economic well-being with regard to current earned income in 2006.

On average, the level of current earned income in 2006 increased by roughly 28.3% for

each additional year of schooling. Analogous to years of schooling, the ratio of risky

financial assets to financial assets in 2004 was also a statistically significant factor in

predicting the young baby boomers’ well-being in economic dimension at the less than

0.0001 level. If the financial ratio increased by one point, the level of current earned

income in 2006 increased by about 245%. In short, risky investment decisions in different

domains had a consistently positive effect on well-being in economic dimension.

125
Model I
Current Family PCS-12 Self- MCS-12
earned income in score in esteem in score in
income in 2006 2006 2006 2006
2006
ln WB1(Fˆ1) ln WB2 (Fˆ1) WB3 (Fˆ1) WB4 (Fˆ1) WB5 (Fˆ1)
Variables Coeff. Coeff. Coeff. Coeff. Coeff.
Net worth in 2004 ( W ) -5.22E-7 -1.04E-7 -2.25E-8
(6.12E-7) (3.465E-7) (6.279E-7)
Total family income in 2003 ( ln I ) 0.163 0.120* 0.267**
(0.109) (0.062) (0.112)

Education investment in 2004 ( Ê )


Years of schooling 0.283*** 0.071* 0.198 0.390*** -0.143
(0.062) (0.038) (0.167) (0.095) (0.171)

Risky financial investment in 2004 ( F̂ )


Ratio of risky financial assets to 2.451*** 3.387*** 4.252* 2.079 3.457
financial assets (0.543) (0.337) (2.328) (1.318) (2.38)
Preference characteristics ( P )
Age of respondent in 2004 -0.025 -0.026 0.065 0.017 -0.009
(0.027) (0.016) (0.059) (0.033) (0.060)
Male 1.615*** 0.116 1.076*** 0.506*** 2.402***
(0.121) (0.075) (0.269) (0.152) (0.276)
Race/ethnicity
Hispanic 0.262 0.089 0.620 0.300 0.990**
(0.186) (0.115) (0.414) (0.234) (0.424)
Black -0.274* -0.316*** -0.213 1.006*** 1.197***
(0.161) (0.100) (0.357) (0.202) (0.366)
Marital status in 2004
Never married -0.479** -0.219* -0.071 -0.569** -1.294***
(0.211) (0.131) (0.485) (0.274) (0.497)

Continued

Table 5.2 Results of Simultaneous Equations Models for Well-Being in Economic,


Physical, and Psychological Dimensions (Model II: Dependent variables- Years of
Schooling and Ratio of Risky Financial Assets to Financial Assets)

126
Table 5.2 Continued

Model I
Current Family PCS-12 Self- MCS-12
earned income in score in esteem in score in
income in 2006 2006 2006 2006
2006
ln WB1(Fˆ1) ln WB2 (Fˆ1) WB3 (Fˆ1) WB4 (Fˆ1) WB5 (Fˆ1)
Variables Coeff. Coeff. Coeff. Coeff. Coeff.
Separated, divorced, or widowed 0.053 -0.027 0.039 0.036 -1.453***
(0.176) (0.109) (0.404) (0.229) (0.414)
Self-employed in 2004 0.279 -0.124 0.563 0.488* 0.133
(0.215) (0.133) (0.477) (0.270) (0.490)
Presence of children in 2004 0.778*** 0.177 -0.168 0.248 -0.260
(0.184) (0.113) (0.405) (0.229) (0.415)
Family size in 2004 -0.356*** -0.094** 0.120 -0.160** -0.049
(0.060) (0.037) (0.133) (0.075) (0.136)

Control variables ( X E , X F , X WB )

Region of residence in 2004


Northeast -0.127 -0.144 0.510 -0.084 -0.526
(0.188) (0.117) (0.419) (0.237) (0.430)
North Central -0.199 -0.263*** 0.256 -0.030 -0.298
(0.154) (0.096) (0.363) (0.205) (0.372)
West -0.211 0.033 -0.219 0.300 -0.889**
(0.171) (0.106) (0.379) (0.215) (0.389)
SMSA status in 2004
SMSA -0.055 -0.025 0.558 0.273 -0.317
(0.159) (0.099) (0.353) (0.200) (0.362)
Country of birth
Born in U.S. -0.221 -0.366** -1.220** 0.432 0.532
(0.268) (0.166) (0.602) (0.341) (0.618)

Continued

127
Table 5.2 Continued

Model I
Current Family PCS-12 Self- MCS-12
earned income in score in esteem in score in
income in 2006 2006 2006 2006
2006
ln WB1(Fˆ1) ln WB2 (Fˆ1) WB3 (Fˆ1) WB4 (Fˆ1) WB5 (Fˆ1)
Variables Coeff. Coeff. Coeff. Coeff. Coeff.
Intercept 5.614*** 9.571*** 43.208*** 24.758*** 50.702***
(1.406) (0.872) (3.535) (2.001) (3.627)
Sample size = 3,425
Test of model fit F value: F value: F-value: F-value: F-value:
31.17 33.75 7.83 14.66 10.73
Pr>F: Pr>F: Pr>F: Pr>F: Pr>F:
<.0001 <.0001 <.0001 <.0001 <.0001
Adj. R2: Adj. R2: Adj. R2: Adj. R2: Adj. R2:
0.12357 0.13274 0.03465 0.06700 0.04865
*Significant at p<0.1; **Significant at p<0.05; ***Significant at p<.01.
Note: Standard errors are in the parentheses.

128
Among a series of preference characteristics included, gender was significant at

the 0.05 level, which means the 2006 current earned income was about 162% more for

males than for females, holding all other variables constant. The finding is in line with

common understanding of gender effects in the labor market. The young baby boomers

who were never married in 2004 had worse economic well-being than their married

counterparts because they had smaller current earned incomes in 2006. Specifically, the

effect of being never married was to change current earned income by roughly -48%.

Current earned income in 2006 was also associated with presence of children in 2004,

showing that the 2006 current earned income was roughly 78% higher for the young baby

boomers who had children in 2004 than for those who did not have any children at the

time. In terms of family size, an additional family member decreased the level of current

earned income in 2006 by approximately 35.6%.

5.2.2 Family Income

The simultaneous equations estimates for family income (take natural logarithm

transformation) are presented in the second column of Table 5.2. The F-test for this

model has a p-value of less than 0.0001, indicating that the overall model is significant.

The adjusted R2 is 0.13. Roughly 13% of variation in family income in 2006 is explained

by the predictor variables. Significant determinants of the 2006 family income at the 0.05

level or less include ratio of risky financial assets to financial assets and preference

characteristics, including race and ethnicity and family size. The 2004 region of residence

and country of birth are also significant predictors at the 0.05 level.

129
Analogous to the role that risky financial investment played in determining the

2006 current earned income, young baby boomers who allocated a larger proportion of

their financial assets to risky financial assets such as stocks, corporate bonds or

government securities, and mutual funds in 2004 had a larger family income in 2006,

implying that the 2004 risky financial investment promoted the young baby boomers’

economic well-being. Specifically, the level of family income increased by about 339%

when the financial ratio increased by one percentage point. The effect of ratio of risky

financial assets to financial assets on family income was even larger than that on current

earned income. Different from the significant effect of education attainment on the 2006

current earned income, years of schooling did not affect the 2006 family income at the

significance level of 0.05, even though the effect was consistently positive.

The preference characteristics which were significant in predicting family income

in 2006 are different from those determining current earned income in 2006. First of all,

compared to non-Black, non-Hispanic Whites and others, Black young baby boomers had

a smaller family income in 2006, showing that family income in 2006 was about 31.6%

lower for Blacks than for non-Black, non-Hispanic Whites and others. Variability in the

2006 family income, however, was not found between Hispanics and non-Black, non-

Hispanic Whites and others. Moreover, family size in 2004 was negatively associated

with family income in 2006, indicating that an additional family member decreased the

level of family income by approximately 9.4%. This negative result implies that the

young baby boomers from a larger family have to reallocate their time from labor market

to family, resulting in spending less time earning income.

130
Region of residence in 2004 was significant in predicting family income in 2006.

The young baby boomers who lived in the North Central region in 2004 had a smaller

family income in 2006 than their Southern counterparts. Specifically, family income in

2006 was roughly 26.3% lower in the North Central region than in the South. There was

no difference between the young baby boomers who lived in the Northeast and the young

baby boomers who lived in the South regarding the 2006 family income. Similarly, a

difference in the 2006 family income was not found between the Westerners and the

Southerners. In addition, the young baby boomers who were born in the U.S. had smaller

family incomes than those who were born in other countries. The effect of being born in

the U.S. was to decrease family income by approximately 36.6%.

Altogether, the predictors of economic well-being are diverse when it comes to

different indicators. First of all, years of schooling had a positive effect on current earned

income, but not on family income, at the significance level of 0.05. Second, gender (male)

played a positive role in determining current earned income, but not family income.

Moreover, marital status and presence of children affected current earned income, but not

family income. On the contrary, race and ethnicity affected family income, but not

current earned income. In terms of similarity, the risky financial asset-to-financial asset

ratio was positively related to both current earned income and family income in 2006.

The other similarity is that family size was negatively related to both indicators.

5.2.3 Physical Component Summary Score

The simultaneous equations estimates for the 2006 Physical Component Summary

131
score (PCS-12) are presented in the third column of Table 5.2. The F-test for this

particular model has a p-value of less than 0.0001. Approximately 3% of variation in the

PCS-12 score is explained by the predictor variables. Specifically, a preference

characteristic indicating whether the young baby boomer is male or female is significant

at the 0.05 level. A control variable that captured country of birth is also significant at the

0.05 level. The overall model is significant; however, economic resources such as net

worth and total family income, education investment (i.e. years of schooling), risky

financial investment (i.e. ratio of risky financial assets to financial assets), and most of

the preference factors are not significant predictors at the 0.05 level or less.

Statistically, economic indicators regarding net worth in 2004 and total family

income in 2003 failed to account for variability in the 2006 physical health among the

young baby boomers, implying that economic status was uncorrelated with physical

health status of the young baby boomers. Similarly, investment in education did not

significantly explain variation in physical health across the young baby boomers. The

insignificant effect of risky financial investment on the PCS-12 score provides additional

evidence that physical health status and socioeconomic status are uncorrelated.

The preference characteristic that was significant at the 0.05 level was gender.

Compared to their female counterparts, male young baby boomers had better physical

well-being in 2006. Specifically, the PCS-12 scores of males were 1.076 points higher

than those of females, holding all other variables constant. This result corresponds to

what was found in sub-section 5.2.1 that male young boomers had not only better

economic well-being but also better physical well-being than females. Consistent with the

132
negative effect of the country of birth variable on economic well-being, the young

boomers who were born in the U.S. had worse physical well-being than those who were

born in other countries. In other words, the PCS-12 scores of the young boomers who

were born in the U.S. were 1.22 points lower than those of the boomers who were born in

other countries.

Generally, education investment was partially related to economic well-being

while it was not associated with physical well-being. Risky financial investments had a

positive effect on economic well-being, but not on physical well-being, of the young

boomers. Most of the preference characteristics could explain disparity in current earned

income which was one of the indicators of economic well-being. However, the majority

of the preference characteristics included failed to account for the difference in physical

well-being and economic well-being which was captured by the 2006 family income.

5.2.4 Self-Esteem

For psychological well-being (i.e. self-esteem), the overall model has a p-value of

less than 0.0001. The adjusted R2 of this particular well-being model is 0.07; roughly 7%

of variation in self-esteem is explained by the predictor variables. Investment in

education (i.e. years of schooling) and preference characteristics such as gender, race and

ethnicity, marital status, and family size are significant predictors of self-esteem in 2006

at the 0.05 level. Control variables does not account for disparity in self-esteem at the

significance level of 0.05.

Human capital in the form of education was significantly associated with the level

133
of self-esteem with a p-value less than 0.0001, indicating that the young baby boomers

who had more years of schooling had higher levels of self-esteem in 2006. On average,

the impact on the self-esteem score of an additional year of schooling was 0.39. The

effect of risky financial investments on self-esteem was not significant at the 0.05 level,

even though the sign of the effect was positive. Contrary to the insignificant effect of

education investment on physical well-being in 2006, education investment played a role

in determining psychological well-being in terms of self-esteem. Although risky financial

investment was a predictor of economic well-being, it did not affect well-being in

psychological and physical dimensions at the 0.05 level.

In line with the results for current earned income in 2006, preference factors

accounted for a larger proportion of variation in self-esteem across the young boomers.

First of all, males had a higher self-esteem score than females in 2006. Specifically, the

self-esteem scores of males were approximately 0.51 points higher than those of females.

Second, Black young baby boomers had higher self-esteem than the young baby boomers

who were non-Black, non-Hispanic Whites and others. The estimated impact of race was

that the self-esteem scores of Blacks were about 1.01 points higher than those of non-

Black, non-Hispanic Whites and others. However, there was no difference between

Hispanics and non-Black, non-Hispanic Whites and others regarding the 2006 self-

esteem scores. The young baby boomers who were never married in 2004 had lower self-

esteem in 2006 compared to their married counterparts. On average, self-esteem scores

were 0.57 points lower for never married young baby boomers than for married young

boomers. Last, the young baby boomers who had a larger family in 2004 had lower self-

134
esteem in 2006 compared to those who had a smaller family in 2004. On average, a

young baby boomer’s self-esteem score decreased by approximately 0.16 points for each

additional family member, other things being equal.

These results show that preference characteristics at individual and family levels

are significantly associated with self-esteem in 2006, which are different from physical

well-being that was predicted solely by individual characteristics. Altogether, none of the

economic indicators could explain variability in the PCS-12 score and the self-esteem

score across the young baby boomer generation in Model I.

5.2.5 Mental Component Summary Score

The F-test for this psychological well-being equation has a p-value of less than

0.0001. Approximately 5% of variation in the MCS-12 score is explained by the predictor

variables. Total family income in 2003 and preference factors such as gender, race and

ethnicity, and marital status, are significant in predicting the 2006 MCS-12 score at the

0.05 level. Region of residence in 2004 is also significant at the 0.05 level.

Total family income was the only economic predictor that was significant at the

level of 0.05, showing that the young boomers who had a larger total family income in

2003 had better mental health status captured by the 2006 MCS-12 score. On average, if

a young baby boomer’s total family income increased by one percent, his/her MCS-12

score rose by approximately 0.0027 points. The effect of risky financial investment on

mental health was not statistically significant, although the sign of the effect was positive.

Consistently, risky financial investment failed to account for difference in psychological

135
well-being across the young baby boomers, regardless of the measures of psychological

well-being. Contrary to the positive effect of years of schooling on self-esteem, years of

schooling were negatively related to mental health status, with the negative effect being

not significant at the 0.05 level.

A series of preference characteristics accounted for variation in the 2006 MCS-12

scores across the young baby boomers, except for age, self-employment status, presence

of children, and family size. First of all, male young baby boomers had higher MCS-12

scores in 2006 than their female counterparts, suggesting that males had better mental

health than their female counterparts. Compared to non-Black, non-Hispanic Whites and

others, Black young baby boomers had higher MCS-12 scores in 2006. Furthermore,

Hispanic young baby boomers had better mental health than the young baby boomers

who were non-Black, non-Hispanic Whites and others. The young baby boomers who

were never married in 2004 had lower MCS-12 scores in 2006 compared to their married

counterparts. Similarly, the young boomers who were separated, divorced, or widowed in

2004 had a smaller value of the 2006 MCS-12 score than their married counterparts.

Specifically, the MCS-12 scores of never married young boomers and the young baby

boomers who were separated, divorced, or widowed were 1.29 points and 1.45 points,

respectively, lower than those of married young boomers.

Region of residence was also a significant predictor of the 2006 MCS-12 score.

Compared to those who lived in the South, the young baby boomers who lived in the

West in 2004 had lower MCS-12 scores in 2006. The impact on the MCS-12 scores of

living in the West was -0.89 points. There was no difference between the Northeasterners

136
and the Southerners and between those living in the North Central region and those living

in the South with regard to the 2006 MCS-12 score.

In sum, total family income was the only economic indicator that affected mental

health. On the contrary, preference characteristics at an individual level explained most of

the variation in mental health across the young baby boomers, with gender (male) being

the most important factor in terms of magnitude. Self-esteem and the MCS-12 score are

indicators of psychological well-being; however, their respective determinants were not

identical. First of all, total family income was a significant predictor of the MCS-12

score, but not self-esteem at the 0.05 level. Second, years of schooling were positively

related to self-esteem but not associated with the MCS-12 score at the significance level

of 0.05. Hispanics were different from non-Black, non-Hispanic Whites and others in

terms of the MCS-12 score while there was no difference between the two racial groups

in terms of self-esteem level. Marital status (being separated, divorced, or widowed) had

an insignificant positive effect on self-esteem; however, the effect became significant and

the sign turned into negative for mental health status of the young baby boomers.

Similarly, family size had a significant negative effect on self-esteem, but not on mental

health. Last, region of residence could explain disparity in mental health, but not self-

esteem.

5.3 Well-Being in Economic, Physical, and Psychological Dimension-in terms of

Dollar Amount of Stocks

The simultaneous equations estimates for economic, physical, and psychological

137
well-being in Model II are presented and discussed in this section. Risky financial

investment in this particular simultaneous equations model was captured by dollar

amount of stocks.

5.3.1 Current Earned Income

The simultaneous equations estimates for the 2006 current earned income (with

natural logarithm transformation) are presented in the first column of Table 5.3. The F-

test for this model has a p-value of less than 0.0001. The adjusted R2 is 0.13, indicating

approximately 13% of variation in current earned income in 2006 was explained by the

predictor variables. Significant determinants are: years of schooling, dollar amount of

stocks, and preference factors such as gender, race and ethnicity, marital status, presence

of children, and family size. None of the control variables were significant at the 0.05

level.

138
Model II
Current Family PCS-12 Self- MCS-12
earned income in score in esteem in score in
income in 2006 (ln) 2006 2006 2006
2006 (ln)
ln WB1(lnFˆ2) ln WB2(lnFˆ2) WB3(lnFˆ2 ) WB4 (lnFˆ2 ) WB5(lnFˆ2)
Variables Coeff. Coeff. Coeff. Coeff. Coeff.
Net worth in 2004 ( W ) -8.23E-7 -1.31E-7 -3.41E-7
(7.851E-7) (4.436E-7) (8.082E-7)
Total family income in 2003 ( ln I ) 0.174 0.134** 0.270**
(0.107) (0.060) (0.110)

Education investment in 2004 ( Ê )


Years of schooling 0.403*** 0.152*** 0.207 0.417*** -0.151
(0.056) (0.031) (0.169) (0.095) (0.173)

Risky financial investment in 2004 ( ln F̂ )


Dollar amount of stocks 0.094** 0.213*** 0.381* 0.149 0.332
(0.040) (0.022) (0.219) (0.124) (0.226)
Preference characteristics ( P )
Age of respondent in 2004 -0.022 -0.023 0.066 0.018 -0.009
(0.026) (0.014) (0.058) (0.033) (0.060)
Male 1.651*** 0.132** 1.059*** 0.507*** 2.382***
(0.118) (0.064) (0.269) (0.152) (0.277)
Race/ethnicity
Hispanic 0.213 0.045 0.581 0.275 0.962**
(0.181) (0.099) (0.408) (0.231) (0.421)
Black -0.329** -0.329*** -0.175 1.012*** 1.236***
(0.158) (0.086) (0.359) (0.203) (0.369)
Marital status in 2004
Never married -0.639*** -0.350*** -0.120 -0.612** -1.321***
(0.203) (0.111) (0.476) (0.269) (0.490)

Continued

Table 5.3 Results of Simultaneous Equations Models for Well-Being in Economic,


Physical, and Psychological Dimensions (Model II: Dependent Variables- Years of
Schooling and Dollar Amount of Stocks (ln))
139
Table 5.3 Continued

Model II
Current Family PCS-12 Self- MCS-12
earned income in score in esteem in score in
income in 2006 (ln) 2006 2006 2006
2006 (ln)
ln WB1(lnFˆ2) ln WB2(lnFˆ2) WB3(lnFˆ2 ) WB4 (lnFˆ2 ) WB5(lnFˆ2)
Variables Coeff. Coeff. Coeff. Coeff. Coeff.
Separated, divorced, or widowed -0.084 -0.145 -0.019 -0.011 -1.490***
(0.168) (0.092) (0.393) (0.222) (0.405)
Self-employed in 2004 0.371* -0.052 0.611 0.519* 0.168
(0.209) (0.114) (0.471) (0.266) (0.485)
Presence of children in 2004 0.775*** 0.176* -0.170 0.245 -0.260
(0.178) (0.098) (0.402) (0.227) (0.414)
Family size in 2004 -0.346*** -0.084*** 0.132 -0.154** -0.039
(0.058) (0.032) (0.132) (0.074) (0.136)

Control variables ( X E , X F , X WB )

Region of residence in 2004


Northeast -0.084 -0.133 0.472 -0.088 -0.566
(0.184) (0.101) (0.421) (0.238) (0.433)
North Central -0.117 -0.197** 0.269 -0.000 -0.302
(0.149) (0.082) (0.361) (0.204) (0.371)
West -0.222 0.016 -0.226 0.291 -0.890**
(0.166) (0.091) (0.377) (0.213) (0.388)
SMSA status in 2004
SMSA -0.023 0.021 0.628* 0.304 -0.259
(0.155) (0.085) (0.351) (0.198) (0.361)
Country of birth
Born in U.S. -0.171 -0.314** -1.199** 0.461 0.538
(0.260) (0.143) (0.597) (0.337) (0.615)

Continued

140
Table 5.3 Continued

Model II
Current Family PCS-12 Self- MCS-12
earned income in score in esteem in score in
income in 2006 (ln) 2006 2006 2006
2006 (ln)
ln WB1(lnFˆ2) ln WB2(lnFˆ2) WB3(lnFˆ2 ) WB4 (lnFˆ2 ) WB5(lnFˆ2)
Variables Coeff. Coeff. Coeff. Coeff. Coeff.
Intercept 4.380*** 8.802*** 43.097*** 24.375*** 50.814***
(1.355) (0.742) (3.537) (1.998) (3.641)
Sample size = 3,425
Test of model fit F value: F value: F-value: F-value: F-value:
31.84 42.93 7.92 14.87 10.81
Pr>F: Pr>F: Pr>F: Pr>F: Pr>F:
<.0001 <.0001 <.0001 <.0001 <.0001
Adj. R2: Adj. R2: Adj. R2: Adj. R2: Adj. R2:
0.12595 0.16383 0.03510 0.06795 0.04904
*Significant at p<0.1; **Significant at p<0.05; ***Significant at p<.01.
Note: Standard errors are in the parentheses.

141
Consistent with the results found in Model I, education investment had a positive

effect on the 2006 current earned income, suggesting that an additional year of schooling

increased the level of current earned income by approximately 40.3%. The effect of an

additional year of schooling on current earned income was even stronger in Model II

(40.3%) than in Model I (28.3%). Furthermore, dollar amount held in the stock market in

2004 had a positive effect on the 2006 current earned income, indicating that a young

baby boomer will have better economic well-being if he/she invests a greater amount of

his/her money in the form of stocks. Specifically, the elasticity of current earned income

with respect to dollar amount of stocks was approximately 0.09. Altogether, risky

investment decisions in different domains played an important role in determining current

earned income in 2006, no matter how risky financial investment was measured.

Analogous to the results found in Model I, current earned income in 2006 were

about 165% higher for males than for females. The effect of being Black was to decrease

current earned income by approximately 32.9%. The young baby boomers who were

never married in 2004 had a smaller value of current earned income than their married

counterparts in 2006. Specifically, current earned income was roughly 64% lower for

being never married, compared to that of being married. Having children in 2004 was

positively associated with the 2006 current earned income, which means that current

earned income was roughly 77.5% higher for the young baby boomers who had children

in 2004 than for those who did not have any children. In addition, the young baby

boomers who were from a larger family had a smaller current earned income in 2006. In

other words, an additional family member decreased the level of current earned income

142
by approximately 35%, which was quite close to the result in Model I.

In sum, education investment and risky financial investments were significant

across model specifications. The preference characteristics which were significant in

Model I were also significant in Model II. The only difference in terms of preference

characteristics is the significant effect of race and ethnicity (being Black) on current

earned income in Model II.

5.3.2 Family Income

The F-test for family income (with natural logarithm transformation) has a p-

value of less than 0.0001. The adjusted R2 is 0.13, suggesting that approximately 13% of

variation in family income in 2006 is explained by the predictor variables. The following

variables are significant at the 0.05 level or less: years of schooling, dollar amount

allocated to the stock market, and preference characteristics (i.e. gender, race and

ethnicity, marital status, and family size). Region of residence and country of birth are

also significant at the 0.05 level.

Unlike the non-significant role of education investment in Model I, years of

schooling had a positive effect on the 2006 family income, suggesting that more educated

young boomers had better economic well-being than less educated young boomers.

Specifically, an additional year of schooling increased the level of family income by

roughly 15.2%. As hypothesized, dollar amount allocated to the stock market in 2004

also had a positive effect on family income in 2006, indicating that a 1% increase in

dollar amount of stocks leaded to a 0.213% increase in the predicted family income.

143
All of the preference characteristics which were significant in Model I to predict

family income were also significant in Model II. First of all, Black young baby boomers

had a smaller family income than their non-Black, non-Hispanic Whites and others in

2006, with the effect of race being slightly stronger in Model II than in Model I.

Moreover, the young baby boomers from a larger family had lower family incomes. The

negative effect of family size was smaller in Model II (8.4% lower) when comparing to

that in Model I (9.4%). In addition to race and ethnicity and family size, the effect of

being never married was to decrease family income by roughly 35%. Furthermore,

gender was significant in predicting the 2006 family income, showing that the effect of

being male was to change family income by approximately 13.2%.

A control variable that indicates region of residence of the young boomers in

2004 played a role in predicting family income in 2006. The young boomers who lived in

the North Central region in 2004 had worse economic well-being than their Southern

counterparts. However, there are no differences between the Northeasterners and the

Southerners and between the Westerners and the Southerners regarding family income.

Country of birth consistently affected family income, which means that the effect of

being born in the U.S. was to decrease family income by approximately 31.4%.

5.3.3 Physical Component Summary Score

The overall model for predicting the Physical Component Summary score (PCS-

12) is significant at the 0.0001 level; however, its adjusted R2 is 0.035, showing that

merely 3.5% of variation in the PCS-12 score is explained by the predictor variables. A

144
preference characteristic that indicates whether a young baby boomer is male or female

was significant at the 0.05 level. A control variable indicating country of birth was also

significant at the 0.05 level. First of all, the PCS-12 scores of males were 1.06 points

higher than those of their female counterparts. Moreover, the PCS-12 scores of the young

baby boomers who were born in the U.S. were approximately 1.20 points lower than

those of the young boomers who were born in other countries. These two variables were

also significant in Model I to predict PCS-12 score at the 0.05 level. In line with the

results shown in Model I, risky investments in different domains failed to account for

disparity in physical health across the young baby boomers. Similarly, economic

resources such as net worth and family income were not significant predictors across

model specifications. Notice that none of the preference characteristics at a family level

predicted physical health status at the significance level of 0.05.

5.3.4 Self-Esteem

The F-test for self-esteem has a p-value of less than 0.0001, indicating that the

overall model is significant. The adjusted R2 is 0.067, suggesting that roughly 6.7% of

variation in self-esteem is explained by the predictor variables. Total family income in

2004, investment in education (i.e. years of schooling), and preference characteristics

such as gender, race and ethnicity, marital status, and family size are significant at the

0.05 level, which are similar to those in Model I with respect to signs.

Comparing the similarity and disparity in terms of significant predictors between

models, it is found that while total family income was not a significant determinant of

145
self-esteem in Model I, it accounted for disparity in self-esteem across the young baby

boomers in Model II, showing that the self-esteem scores rose by roughly 0.0013 points if

total family income measure increased by one percent. Education attainment was a

significant determinant of self-esteem in 2006 across models, with the effect of education

being stronger in Model II than in Model I. Namely, the impact on the self-esteem score

of an additional year of schooling was 0.42 points. The effect of risky financial

investments was non-significant in both models, even though the effect in each model

was positive. Moreover, net worth was not a significant predictor of self-esteem either in

Model I or in Model II. The preference characteristics which were significant in

predicting self-esteem were identical across models with respect to signs. Note that self-

employment status was significant at the 0.1 level. The impact on self-esteem scores of

being self-employed were 0.52 points higher than those of being employed by others.

5.3.5 Mental Component Summary score

The F-test for the model to predict the MCS-12 score has a p-value of less than

0.0001, indicating that the overall model is significant. The adjusted R2 for the model is

0.05, suggesting that approximately 5% of variation in the MCS-12 score is explained by

the predictors. Total family income in 2003 and a set of preference factors such as gender,

race and ethnicity, and marital status are significant at the level of 0.05. Region of

residence is also significant at the level of 0.05.

Consistent with the results in Model I for the MCS-12 score, total family income

in 2003 was significantly associated with the 2006 MCS-12 score in Model II, showing a

146
positive contribution of economic resources to psychological well-being. This positive

effect was slightly larger in Model II than in Model I. Analogous to the effect of net

worth in Model I, the 2004 net worth did not play a role in determining the MCS-12 score

in Model II at the significant level of 0.05. Neither education investment nor risky

financial investment affected mental health at the significant level of 0.05, which are in

line with the results found in Model I. In terms of preference characteristics, the

significant predictors were identical in Model I and Model II, but the magnitude of each

effect was different to some extent. First of all, gender (male) effect on the MCS-12 score

was larger in Model I than in Model II. Being Hispanic had a larger effect on the MCS-12

score in Model I while being Black had a stronger impact in Model II. Consistently, the

negative effects of marital status (being never married and being separated, divorced, or

widowed) were relatively stronger in Model II than in Model I.

5.4 Summary of Empirical Results

Generally speaking, more risk tolerant young baby boomers invested less in

education than their less risk tolerant counterparts with regard to the 1979 objective

measure of risk tolerance under the drug use and sales domain. All of the preference

characteristics are significant to predict years of schooling at the 0.05 level. For example,

older young baby boomers had more years of schooling. Being female, being Hispanic,

and being Black were positively associated with years of schooling. These results

consistently suggest that education is the investment that economically disadvantaged

persons are more willing to make in order to get rid of poverty, which means education

147
investment is considered one type of insurance, rather than a risky investment. Being

married and having any children in 1980 were negatively associated with investment in

education, indicative of time-consuming characteristics of investment in education.

Individual ability evaluated by the AFQT score had a positive effect on education

investment, widening the gap between more intelligent young baby boomers and less

intelligent young baby boomers with respect to knowledge and skills. Parental education

and education level of the oldest sibling also had a positive effect on years of schooling.

However, the number of siblings was negatively related to years of schooling of the

young baby boomers, suggestive of limited resources in households. Region of residence

was also a significant predictor, meaning that the young baby boomers living in the

Northeast and living in the North Central region had less years of schooling compared to

their Southern counterparts. In general, hypothesis H1 is partially supported.

The predictors of risky financial investment are mainly consistent across models.

None of the risk tolerance measures were significant in predicting risky financial

investments at the 0.05 level. Economic resources such as net worth and total family

income were positively associated with ratio of risky financial assets to financial assets

and dollar amount of stocks, which indicates that risky financial assets are normal goods.

Years of schooling were positively related to the proportion of financial assets allocated

to risky financial assets and dollar amount allocated to stocks. Both primary home

ownership and secondary home ownership had positive impacts on the level of financial

assets allocated to risky financial assets and dollar amount in the stocks market,

indicating the importance of other types of assets in determining risky financial assets

148
such as stocks, corporate bonds or government securities, and mutual funds. Living in the

North Central region was positively associated with the proportion of financial assets

invested in risky financial assets and dollar amount allocated to the stock market. The

only difference between Model I and Model II is the Northeast-South disparity with

respect to dollar amount of stocks. To summarize, hypotheses H2a and H2b are not

supported while hypotheses H3a and H3b are supported.

The determinants of economic well-being are generally in agreement across the

models. Years of schooling had a positive effect on current earned income in both models

and a positive effect on family income merely in Model II. The proportion of risky

financial assets to financial assets and dollar amount of stocks were positively related to

current earned income and family income, respectively, showing that risky financial

investments had a positive effect on one’s economic well-being later in life. Preference

characteristics played significant roles in predicting economic well-being while the

significant variables vary across models and indicators of economic well-being. Mainly,

Black young boomers had worse economic well-being than non-Black, non-Hispanic

Whites and others. Never married young baby boomers had worse economic well-being

than their married counterparts. Family size was negatively associated with economic

well-being. The presence of children positively affected economic well-being regarding

current earned income. Specifically, males had better economic well-being in Model II,

regardless of the indictors of economic well-being. In Model I, males merely had better

economic well-being regarding current earned income. In sum, hypothesis H4a is

partially supported and hypothesis H5a are supported.

149
The predictors of physical well-being are identical between Model I and Model II

in terms of significances and signs. Most of the predictor variables such as economic

characteristics and risky investments were not significant. Gender and country of birth

were the only two variables which were significant at the 0.05 level. In sum, hypotheses

H4b and H5b are not supported.

Determinants of well-being in psychological dimension were slightly different in

terms of well-being indicators and model specifications. Generally, total family income

was a significant predictor of self-esteem in Model II and a significant predictor of the

MCS-12 score in both models. Years of schooling explained disparity in self-esteem in

both models; however, education attainment failed to account for discrepancy in mental

health in either Model I or Model II. Being male, being Black, and being married had a

positive effect on both self-esteem and the MCS-12 scores in both models. Being

Hispanic was positively related to the MCS-12 score in either model. Having smaller

family size was positively associated with self-esteem in Model I and Model II. In short,

hypothesis H4c is partially supported while hypothesis H5c is not supported.

Table 5.4 summarizes the hypothesis testing results in this study.

150
Hypotheses Results
H1: Holding all other factors constant, risk tolerance has a significant effect on Partially supported
investment in education.

H2a: Holding all other factors constant, risk tolerance has a significant effect on Not supported
the proportion of liquid wealth invested in risky financial assets.

H2b: Holding all other factors constant, risk tolerance has a significant effect on Not supported
dollar amount of liquid wealth invested in risky financial assets.

H3a: Holding all other factors constant, investment in education has a significant Supported
effect on the proportion of liquid wealth invested in risky financial assets.

H3b: Holding all other factors constant, investment in education has a significant Supported
effect on dollar amount of liquid wealth invested in risky financial assets.

H4a: Holding all other factors constant, investment in education has a significant Partially supported
effect on economic well-being later in life.

H4b: Holding all other factors constant, investment in education has a significant Not supported
effect on physical well-being later in life.

H4c: Holding all other factors constant, investment in education has a significant Partially supported
effect on psychological well-being later in life.

H5a: Holding all other factors constant, investment in risky financial assets has a Supported
significant effect on economic well-being later in life.

H5b: Holding all other factors constant, investment in risky financial assets has a Not supported
significant effect on physical well-being later in life.

H5c: Holding all other factors constant, investment in risky financial assets has a Not supported
significant effect on psychological well-being later in life.

Table 5.4: Summary of Hypothesis Testing Results

151
CHAPTER 6

CONCLUSIONS AND IMPLICATIONS

Conclusions and implications of the current study are presented in this chapter.

The first section is the summary of statistical methods and key findings of the current

study. The second section is the implications of the current study. Limitations and

directions for future research are also discussed in the last section.

6.1 Conclusions

Financial investments with respect to risk have drawn substantial attention from

researchers in theory and in practice because individuals are taking more responsibility

for asset allocation of their portfolios due to the movement from defined benefit plans to

defined contribution plans. It is understood that risky financial investments are not made

in isolation while little research has attempted to incorporate decision making in different

domains within one theoretical framework. The main purpose of the current study is to

investigate the determinants of risky financial investments with one of the predictors,

namely education investment, being endogenously determined by the level of risk

tolerance. Multiple dimensions of individual well-being later in life are then examined

based on the two endogenously determined factors, including education investment and

152
risky financial investment. The data for the current study were from the 1979, 1980, 1981,

1993, 2000, 2002, 2004, and 2006 waves of the National Longitudinal Survey of Youth

1979. Variables from each wave were selected, making it possible to study causal

relationships among the variables. All of the young baby boomers in the sample had at

least some years of schooling and the median value of years of schooling was roughly 14

years. Approximately 47% of the young baby boomers owned risky financial assets.

Demand for risky assets and their respective impacts on individual well-being

were modeled in terms of the expected utility model and the Capital Asset Pricing Model

using simultaneous equations models. The decision to invest in oneself via education was

modeled as the first stage. The decision to make risky investments in the financial market

was then modeled, where the predicted value of years of schooling and the included

exogenous variables were used as regressors. The level of individual well-being in

economic, physical, and psychological dimensions was then modeled with the predicted

values of years of schooling and ratio of risky financial assets to financial assets (or

dollar amount of stocks) and the included exogenous variables used as regressors.

Previous studies have assumed that there is a single, underlying risk attitude that

governs risk-taking behavior in all domains of life in economics. For this reason, risk

attitude derived from actual risk-taking behavior or hypothetical income risk questions is

considered an indicator of risk tolerance in all other contexts. Based on that rationale, this

study hypothesizes significant effects of risk tolerance on investment decisions in

education and risky financial assets. The results show that the risk tolerance variable in

1979 had a significant negative effect on education investment (i.e. years of schooling),

153
indicative that the young baby boomer generation tends to view education investment as

one type of insurance or that the marginal risk associated with education investment is

small, in line with Belzil and Leonardi’s (2007) conclusions using the Italian data. The

results also suggest that the young baby boomers who were not willing to participate in

illegal activities make investments in education because their average willingness to take

risk varies across domains, which is in accordance with Dohmen et al. (2005). Scholars in

various disciplines such as psychology and economics have questioned the existence of

stable utility functions and risk attitude, given that attitude toward risk seems to be

dependent on the context provided in laboratory experiments (Dohmen et al., 2005). Even

though individuals have stable risk preferences, it is likely that they consider the typical

risk in one context more than in another. The current finding does provide additional

evidence supporting the argument for unstable attitudes toward risk.

The non-significant effect of risk tolerance on risky financial investments might

imply that the young baby boomers hold risky financial assets because they have taken

more responsibility for selecting the types of investment instruments that involve

different levels of risk due to the movement toward defined contribution retirement plans,

rather than because they have propensity to tolerate risks. Another potential explanation

might be that the effect of investment in education is so substantial that decision making

of the young baby boomers is mainly driven by the relevant knowledge and skills they

accumulated from education investment, rather than by their innate risk tolerance. It is

also possible that the objective measures of risk tolerance which are derived based on

illegal activity participation are not a good proxy for pure risk preference because the

154
created indices merely reflect other personal characteristics such as entrepreneurial ability

and a preference for autonomy, rather than one’s risk tolerance. Last, the wording of the

hypothetical income risk questions in the NLSY79 may make the young baby boomers

have an aversion to a new job irrelevant to its income risk. Following Barsky et al. (1997),

revision of these hypothetical income risk questions is recommended so that respondents

can make choices between two new jobs, rather than between a current, certain job and a

new, uncertain job.

As is hypothesized in the Capital Asset Pricing Model, investment in education

has a positive effect on the proportion of risky financial assets to financial assets and the

dollar amount allocated to the stock market, suggesting that the young baby boomers who

have more years of schooling are more capable of collecting financial information,

understanding technical terms, and calculating numbers than those who have fewer years

of schooling; therefore, they may feel more comfortable or confident taking risks via

allocating a larger proportion of their financial assets to risky financial assets or holding a

greater amount of their money in the stock market. This significant positive effect of

investment in education accounts for a relatively larger proportion of variation in risky

financial investments, leaving risk tolerance and most of the preference characteristics

rather trivial in predicting either the ratio of risky financial assets to financial assets or the

dollar amount allocated to stocks.

The current study also hypothesizes significant effects of risky investment

decisions in different domains on each dimension of individual well-being. The empirical

results show that investment in education positively affects economic well-being and

155
psychological well-being in terms of self-esteem; however, it fails to account for

disparities in physical well-being and psychological well-being with respect to mental

health across the young baby boomers. Risky financial investment consistently has a

positive effect on economic well-being while it does not significantly affect well-being in

physical and psychological dimensions. The diverse effects of risky investments across

well-being dimensions are suggestive of multi-dimensional characteristics of well-being.

In other words, a common single factor has its limitation on predicting one’s overall well-

being level. Schooling enhances an individual’s productivity, and, in turn, wage paid in

the labor market (Bryant & Zick, 2006), resulting in better economic well-being captured

by current earned income and family income. Bryant and Zick also argued that education

has been regarded as a signal of ability or productivity. Employers who have the belief

that education is associated with productivity will screen employees for their education

and pay higher wage rates to the more educated ones (Chevalier, Harmon, Walker, &

Zhu, 2004). On the other hand, individuals who take financial risks are compensated by

the opportunity of realizing a higher return. The compensations for taking risks are then

transformed into achieving a higher level of economic well-being. Physical health,

however, is more gene-oriented. Innate characteristics such as predisposing factors or

bio-psychological factors, therefore, outweigh other factors in accounting for disparity

across individuals, leaving risky investments rather trivial in predicting physical well-

being. Last, students who go to school learn a body of knowledge and consequently have

higher self-esteem because they believe they are more capable, satisfied and proud than

the less educated. Note that well-being in one specific dimension can be captured by

156
multiple indicators. For example, both mental health and self-esteem are indicators of

psychological well-being. Mental health describes an absence of mental disorders while

self-esteem is a central aspect of psychological well-being, including notions of worth,

health, goodness, appearance, and social competence. Even though the two indicators are

found to be associated with each other, individuals are very likely to response differently

to these two different types of assessment instruments, generating discrepant results for

psychological well-being.

In conclusion, the predictors of risky investment decisions and individual well-

being are more complex than expected; for this reason, a comprehensive model is

definitely needed to portray a more complete picture of risk-taking behavior, including its

determinants and consequences.

6.2 Implications

6.2.1 Theoretical Implications

The current study makes several contributions to existing literature. First of all,

this study has theoretical implications. Consistent with Dohmen et al., (2005), the

findings of insignificant effects of risk tolerance provide evidence for the limited ability

of an economic theory based on its strict assumption that a single, underlying risk

preference governs risk-taking behavior in all domains of life in predicting risk-taking

behavior in different domains. These findings also suggest that risk tolerance may vary

across domains, which means that an individual may consider the typical risk in one

context more than in another, in line with previous argument of unstable attitude toward

157
risk of individuals. Last, the elicited risk responses to hypothetical choices and the

objective measures of risk tolerance may not perfectly connect risk-taking behavior in the

real world, resulting in an insignificant relationship between risk tolerance and risky

investment decisions in different domains.

These findings also suggest that the original Capital Asset Pricing Model (CAPM)

partially explains the demand for risky financial investment. However, this does not

imply that the application of the CAPM to understanding demand for risky financial

assets is of little value. Deviations from the CAPM may provide valuable information for

augmenting the model in finance. First of all, the original CAPM with a series of strict

assumptions that reduce the complex situation to an extreme case may fail to account for

the disparity in investment decisions among individuals. For this reason, the release of

key assumptions extends the explanatory power of the CAPM. For example, the current

study indicates that preference characteristics such as home ownership influence the

demand for risky financial assets, consistent with previous studies which have also

illustrated that holding other types of assets affect the demand for risky financial assets.

As a result, identifying and including such variables in the CAPM can explain additional

variance in demand for risky financial assets. Furthermore, the current finding implies

that a non-zero  hk ,m does exist because human capital is significantly associated with

the financial market in terms of portfolio composition. The endogenously determined

human capital assets surpass risk tolerance in predicting investment in the financial

market, suggesting the existence of non-marketable human capital and the inclusion of

158
human capital in modeling individual portfolio composition.

6.2.2 Implications for Policymakers

The advance of medicine has prolonged one’s life, leading people spending a

larger proportion of life in retirement. Sufficient pension and retirement income to cover

a longer time period are therefore needed to supplement individual needs. Better physical

and mental health is also indispensable to meet the demands of everyday life.

Accumulation of well-being requires long-term planning and individuals who start

building their wealth and health at an earlier stage of life can achieve a higher level of

well-being later in life. The conclusions in this study have important implications for

public policy makers in different areas to assist in promoting individual well-being,

particularly in light of recent demographic and financial market trends.

Implications for Educational Policymakers

The empirical finding that the 1979 illegal activity participation was negatively

associated with education investment suggests that individuals who have participated in

illegal activities such as drug use and sales tended to under-invest in education.

Comparing to other predictors of education investment, the risk tolerance variable does

not appear to be a relatively important factor in schooling decisions. Family human

capital such as parental education and education of the oldest sibling and other preference

characteristics, on the contrary, play a substantially larger role. To begin with, the

intergenerational effect of education attainment makes itself more attractive because

more than one generation benefit from human capital investment. Second, that education

159
level of an individual increases with that of his/her own siblings provides additional

evidence that benefits from education investment can spread not only from generation to

generation but within generations. In addition to family human capital, individuals who

were considered economically disadvantaged invested in education, suggesting that

receiving education is a means to get rid of poverty or one type of insurance against

uncertainty. Last, education investment involves the use of scarce resources, including

money and time, implying the expensive attribute of education investment in terms of

considerable opportunity costs.

Seeing that individuals might change their attitudes, values, or behavior in order

to conform to the peer group they belong to due to peer pressure, which is particularly

common because most youths are forced to spend large amount of time in fixed groups

such as schools and sub-groups within schools, the negative relationship found between

illegal activity participation and education investment implies the significance of

developing educational programs that encourage this group of people who have

participated in illegal activities to receive more education. This type of policies not only

increases the average education level of the U.S. citizens but also has a positive effect on

risky financial investment in later stage of life, resulting in better economic well-being

and higher self-esteem later in life.

It would be beneficial to invest in education; however, greater economic volatility

has been found to reduce schooling enrollment rates (e.g. Flug, Spilimbergo, &

Wachtenheim, 1998), and, in turn, aggravate income inequality. For this reason, long-

term, stable funding such as Federal student aid programs and state aid programs is

160
necessary, particularly during the period of economic recession, because education

investment is a cumulative process that takes time as well as money. According to the

U.S. Department of Education, the Federal programs provide more than $80 billion per

year in grants, loans, and work-study assistance, helping students or parents pay for their

or their children’s school.8 State aid programs also provide a variety of grant and

scholarship programs to aid students as they pursue education. In view of the severe

economic downturn in the U.S., educational authorities may consider loosen the

restrictions on student aid eligibility to alleviate vicious cycle of under-investment in

schooling, particularly for those who are considered economically advantaged.

In addition to financial aid programs, transfer and tax policies have their

advantages to increase education attainment. For example, appropriate and instant

education subsidy programs are needed for students, particularly for those are from

households in poverty or with limited economic resources and those from households

with a larger family size in terms of the presence of children under age 18 or the number

of siblings. The inclusions of expanded student loan interest deduction, tuition and fees

deduction, and education credits in the federal income tax system and corresponding

mechanism in the state tax system would alleviate the tax burden of households,

motivating parents or students themselves to invest in human capital in the form of

education.

8
Available at: http://studentaid.ed.gov/PORTALSWebApp/students/english/funding.jsp

161
Disparity in the number of years of schooling does exist among individuals who

live in different regions, implying that redistribution of education resources at federal,

state, and local government levels may be essential for boosting enrollment rates in

school in particular areas. As mentioned before, the cost of education, including tuition

and fees and expenditures on room, board, and travel, is substantial; thus, more accessible

education resources provided for residents in each state might encourage local students to

receive education at lower costs. Furthermore, educational programs with flexible

schedules or policies that provide services such as short-term child care are desirable

because these programs or polices facilitate students to manage their time as well as their

money in a more efficient way, particularly for those who have to take care of their

elderly parents and raise their young children, providing them with more choices of

receiving education.

In short, these programs and policies are designed to provide motivations,

particularly for potential investors in human capital market, and, in turn, stimulate

investments in the financial market as well as individual well-being in economic and

psychological dimensions.

Implications for Researchers and Practitioners in Financial Planning Services

Empirical findings in the current study demonstrate that education attainment in

terms of years of schooling significantly outweighs other factors in predicting investment

decisions in the financial market, and, in turn, promotes individual well-being in

economic dimension. People who have more years of schooling may feel more confident

162
or capable of investing in the financial market because they have accumulated more

financial knowledge and skills to improve their financial decision making than their

counterparts. For this reason, financial service professionals should provides appropriate

guidance to meet the financial goals of their clients based on individual educational

background. Financial service professionals may also provide financial education for

investors, particularly for those who have a lower education level, making these investors

equipped with relevant financial knowledge and skills and feel comfortable when making

risky financial investments. For potential investors, financial service professionals can

offer free investment seminars or lectures to explain basic concepts of investment terms

and introduce risky financial instruments available in the market.

Since the empirical results show that individuals with fewer economic resources

invested less in risky financial assets, and in turn, negatively affected their economic

well-being, financial service professionals should pay greater attention to their clients

who have smaller amount of net worth and/or total family income. The reallocation from

relatively risk-free assets to risky assets may help this group of investors to accumulate

their wealth increasingly, narrowing the gap between the rich and the poor with respect to

economic well-being later in life and lightening the burden borne by future generations.

It is important to note that home ownership is a rather stronger predictor of

investment in risky financial assets. Generally, home ownership provides a mechanism of

diversification (Wang & Hanna, 2007) that helps minimize the risk from any investment;

therefore, home owners are more likely to possess stocks or other types of risky financial

assets than non-owners. In view of the importance of diversification in determining risky

163
financial investment, financial service professionals need to take into consideration the

composition of portfolio of their clients in order to provide better investment suggestions

to meet individual needs.

Wang and Hanna (1997) and Bajtelsmit et al. (1999) have argued that real estate

other than an owner-occupied home is one type of risky financial assets. In line with this

rationale, clients who have a second home may have different preferences or propensities

to risky financial investments. Even though the empirical findings in this study show that

objective measures of risk tolerance and risk tolerance derived from a set of hypothetical

income risk questions do not have significant effects on risky financial investments, this

does not necessarily mean that risk tolerance is not important for predicting risk-taking

behavior in the financial market. Since risk tolerance may change with age or context

provided, clients’ actual investment behavior may be used as a complement to risk

tolerance measures for financial services practitioners to examine how their clients

tolerate risk with respect to financial investments. Financial service practitioners may be

able to accurately detect clients’ risk tolerance level and then provide suitable investment

suggestions based on one’s propensity to tolerate risk by taking advantage of multiple

resources of risk tolerance measures. Assuming that owning a second home is risky is

true, financial planning and education should encourage individuals who are classified as

less risk tolerant and consequently avoid holding high return assets such as stocks to

allocate part of their investments to broadly diversified stock funds in order to maintain

household purchasing power or promote their economic well-being later in life.

The non-significant effect of risk tolerance on risky financial investment may

164
come from the fact that the proxies for risk tolerance in this study did not fully capture

risk tolerance but other personal characteristics. For this reason, financial service

practitioners are recommended to use a more comprehensive assessment instrument to

capture risk tolerance of their clients. Following the findings that risk tolerance is not

stable and may changes with age or other demographic characteristics and depends on the

current economic situation or government regulations, financial service professionals

need to track and measure risk tolerance of their clients regularly to provide appropriate

recommendations that are corresponding to the actual state.

6.2.3 Implications for Research

Risk tolerance may jointly determine education investment and risky financial

investment while little research has been conducted to model both risky investment

decisions simultaneously within one theoretical framework. The current study may be the

first known study that employs simultaneous equations models to account for joint

investment decisions in different domains and/or at different life stages based on the

Capital Asset Pricing Model. The reason for using simultaneous equations models instead

of one single equation OLS regression analysis is that the assumption that all explanatory

variables are uncorrelated with the error term is violated because investment in education

is assumed to be endogenously determined by individual risk tolerance, leading to biased

and inconsistent results. Another advantage of using a simultaneous equations model is

that this analytical approach has the ability to detect indirect effects coming from casual

relationships among the factors included. For example, the empirical findings based on

165
simultaneous equations estimates suggest that risk tolerance has a significantly stronger

effect on education investment made when young and the accumulated knowledge and

skills from education in turn affect investment decisions in the financial market, leaving

risk tolerance a relatively weaker predictor of risky financial investment, which is

different from previous studies that simply used OLS regression analysis (e.g. Guiso &

Paiella, 2004; Kimball et al., 2005; Gutter & Fontes, 2006; Sahm, 2007). That “the

relationship between risk tolerance and the holding of risky assets is much weaker than

theory suggests it should be (Barsky et al., 1997)” may be explained in terms of the

simultaneously determined estimates.

Since simultaneous equations models allow researchers to analyze complex

relationships with several dependent or endogenous variables in system of linear

equations, this particular statistical method can be applied to study diverse investment

decisions in the financial market. In view of the serious problem of the housing crash in

the U.S., future research is encouraged to examine how investment in real estate and

investment in the stock market inter-relate to each other in the real world. The inter-

relationship between risky financial assets with respect to different level of risks can be

investigated using simultaneous equations models. Note that investments in education

and risky financial assets are jointly determined while well-being in different dimensions

is examined separately. The reason for doing so is dependent on the purpose of the

current study to explore the causal relationship between risk tolerance, risk-taking

behavior, and individual well-being. The inclusion of multiple measures is to provide a

more comprehensive picture of individual well-being since current earned income alone,

166
for example, cannot account for the overall well-being of an individual. Previous

researchers have argued about the relationship between economic status and health status

as indicators of well-being; however, they have not reached an agreement on whether

economic status affects health status or the opposite. Future study can take advantage of

simultaneous equations models to detect the causal relationship with multiple measures

of well-being simultaneously taken into consideration.

Although these empirical findings are robust, there are several limitations of the

current study. First of all, to protect the confidentiality of respondents, the NLSY79

allows top-coding the extremely high values of wealth data provided by respondents by

replacing all values above the cutoff values with the average of all outliers (Zagorsky,

1999). Top-coding masks the values provided by the rich who are the very persons in that

researchers are particularly interested. The increasing number of top coded individuals

with time also implies that the data is less usable for future research. Second, status quo

bias of the NLSY79 hypothetical income risk questions is problematic because the

wording may make individuals have an aversion to a new job irrelevant to its income

risk. Some respondents may answer these questions without understanding the meanings

of the questions or value their jobs based on reasons other than an economic or financial

one and hesitate to leave their job despite the large expected increase in income. It is also

possible that responses to hypothetical questions do not correspond to decision making in

reality. Another limitation of this study is that the 1979 illegal activity participation may

capture other personal characteristics, rather than risk tolerance, leading to inconsistent

results with those in previous results. For this reason, other nationally representative

167
surveys with both wealth information and information for deriving risk tolerance are

recommended to use in future research for the purpose of comparison. Alternatively,

actual risk-taking behavior in different domains may be an option for creating indices of

risk tolerance. Examples are smoking behavior, drinking behavior, substance use, sexual

activity, and so forth. Last, the 2006 wave of the NLSY did not collect wealth

information of its respondents; for this reason, wealth data or more comprehensive

measures of economic well-being such as debt-to-income ratio and debt-to-income ratio

are not available for the current study. Similarly, direct measures of psychological well-

being such as happiness or life satisfaction can be employed in future studies.

168
BIBLIOGRAPHY

Acemoglu, D., & Pischke, J. -S. (2001). Changes in the wage structure, family income,
and children's education. European Economic Review, 45(4-6), 890-904.

Ahn, J. (2002). Beyond single equation regression analysis: Path analysis and multi-stage
regression analysis. American Journal of Pharmaceutical Education, 66(1), 37-42.

Amuedo-Dorantes, C., & Pozo, S. (2002). Precautionary saving by young immigrants and
young natives. Southern Economic Journal, 69(1), 48-71.

Arrondel, L., & Calvo-Pardo, H. C. (2002). Portfolio choice with a correlated background
risk: Theory and evidence. DELTA Working Paper No. 2002-16, 1-47.

Arrow, K. J. (1965). Aspects of the Theory of Risk-Bearing. Helsinki, Finland: Yrjö


Jahnssonin Foundation.

Athearn, J. L. (1971). What is risk? The Journal of Risk and Insurance, 38(4), 639-645.

Baek, E., & DeVaney, S. A. (2004). Assessing the baby boomers’ financial wellness
using financial ratios and a subjective measure. Family and Consumer Sciences
Research Journal, 32(4), 321-348.

Bailey, M. J., Olson, M., & Wonnactoo, P. (1980). The marginal utility of income does
not increase: Borrowing, lending, and Friedman-Savage gambles. American
Economic Review, 70(3), 372-379.

Bajtelsmit, V. L., Bernasek, A., & Jianakoplos, N. A. (1999). Gender differences in


defined contribution pension decisions. Financial Services Review, 8(1), 1-10.

Barsky, R. B., Juster, F. T., Kimball, M. S., & Shapiro, M. D. (1997). Preference
parameters and behavioral heterogeneity: An experimental approach in the Health
and Retirement Study. Quarterly Journal of Economics, 112(2), 537-579.

169
Bauman, K. J. (1999). Extended measures of well-being: Meeting basic needs. Current
Population Reports. Washington, DC: U.S. Bureau of the Census.

Becker, G. S. (1971). Economic Theory (1st ed.). New York: Alfred A Knopf, Inc.

Becker, G. S. (1975). Human Capital (2nd ed.). New York: Columbia University Press.

Becker, G. S. (1993). Human Capital: A Theoretical and Empirical Analysis with Special
Reference to Education (3rd ed.). New York: Columbia University Press.

Becker, G. S., & Becker, G. N. (1997). The Economics of Life: From Baseball to
Affirmative Action to Immigration, How Real-World Issues Affect Our Everyday
Life. New York: McGraw-Hill.

Behrman, J. R., & Wolfe, B. L. (1989). Does more schooling make women better
nourished and healthier? Adult sibling random and fixed effects estimates for
Nicaragua. Journal of Human Resources, 24, 644-663.

Bellante, D., & Link, A. N. (1981). Are public sector workers more risk averse than
private sector workers? Industrial & Labor Relations Review, 34(3), 408-412.

Belzil, C., & Leonardi, M. (2007). Can risk aversion explain schooling attainments?
Evidence from Italy. Lobour Economics, 14(6), 957-970.

Berger, M. C., & Leigh, J. P. (1989). Schooling, self-selection and health. Journal of
Human Resources, 24, 433-455.

Bernasek, A., & Shwiff, S. (2001). Gender, risk, and retirement. Journal of Economic
Issues, 35(2), 345-356.

Bertaut, C. C. (1998). Stockholding behavior of U.S. households: Evidence from the


1983-1989 Survey of Consumer Finances. The Review of Economics and
Statistics, 80(2), 263-275.

Bowles, S. (1972). Schooling and inequality from generation to generation. Journal of


Political Economy, 80(S3), S219-S251.

Bradburn, N. M., & Caplovitz, D. (1965). Reports on Happiness: A Pilot Study of


Behavior Related to Mental Health. Chicago: Aldine Publishing Company.

Brown, S., Garino, G., & Taylor, K. (2006). Returns to education and risky financial
investment. Sheffield Economic Research Paper Series, SERP Number: 2006012,

170
1-12.

Brown, S., Ortiz, A., & Taylor, K. (2006). Educational attainment and risk preference.
Sheffield Economic Research Paper Series, SERP Number: 2006002, 1-30.

Brown, S., & Taylor, K. (2005). Wage growth, human capital and financial investment.
The Manchester School, 73(6), 686-708.

Brown, S., & Taylor, K. (2006). Education, risk preference and wages. Sheffield
Economic Research Paper Series, SERP Number: 2006002, 1-12.

Brunello, G. (2002). Absolute risk aversion and the returns to education. Economics of
Education Review, 21, 635-640.

Bryant, W. K., & Zick, C. D. (2006). The Economic Organization of the Household (2nd
ed.). New York: Cambridge University Press.

Campbell, A. (1981). The Sense of Well-Being in America: Recent Patterns and Trends.
New York: McGraw-Hill.

Campbell, A., Converse, P. E., & Rodgers, W. E. (1976). The Quality of American Life:
Perceptions, Evaluations, and Satisfactions. New York: Russell Sage Foundation.

Campbell, J. Y., & Viceira, L. M. (2002). Strategic Asset Allocation: Portfolio Choice for
Long-Term Investors. New York: Oxford University Press.

Cantril, H. (1965). The Pattern of Human Concerns. New Brunwick, NJ: Rutgers
University Press.

Carneiro, P., Hansen, K.T., & Heckman, J.J. (2003). Estimating distributions of treatment
effects with an application to the returns to schooling and measurement of the
effects of uncertainty on college choice. IZA Discussion Paper No. 767, 1-66.

Chavas, J. P. (2004). Risk Analysis in Theory and Practice. Boston: Elsevier Academic
Press.

Chen, P., & Finke, M. S. (1996). Negative net worth and the life cycle hypothesis.
Financial Counseling and Planning, 7(1), 87-96.

Chen, S. H. (2001). Is investing in college education risky? Discussion Paper, State


University of New York at Albany.

Chen, S. H. (2003). Risk attitude and college attendance. Discussion Paper, State

171
University of New York at Albany.

Chen, Z, & DeVaney, S. A. (2002). What factors affect the household net worth of
employees and business owners? Financial Services Review, 11(4), 381-391.

Chevalier, A., Harmon, C., Walker, I., & Zhu, Y. (2004). Does education raise
productivity, or just reflect it? The Economic Journal, 114(499), F499-F517.

Christiansen, C., Joensen, J. S., & Nielsen, H. S. (2007). The risk-return trade-off in
human capital investment. Labour Economics, 14(6), 971-986.

Cohn, R. A., Lewellen, W. G., Lease, R. C., & Schlarbaum, G. G. (1975). Individual
investor risk aversion and investment portfolio composition. Journal of Finance,
30(2), 605-620.

Coleman, S. (2003). Risk tolerance and the investment behavior of Black and Hispanic
heads of household. Financial Counseling and Planning, 14(2), 43-52.

Crocker, J., Luhtanen, R., Blaine, B., & Broadnax, S. (1994). Collective self-esteem and
psychological well-being among Whites, Black, and Asian college students.
Personality and Social Psychological Bulletin, 20(5), 503-513.

Curcuru, S. E., Heaton, J., Lucas, D. (2007). Heterogeneity and portfolio choice: Theory
and evidence. In Y. Ait-Sahalia & L. P. Hansen (Ed.), Handbook of Financial
Econometrics. Amsterdam, North-Holland: Elsevier Science.

Deaton, A., & Muellbauer, J. (1980). Economics and Consumer Behavior. New York:
Cambridge University Press.

Denenberg, H. S., Eilers, R. D., Hoffman, G. W., Kline, C. A., Melone, J. J., & Snider, H.
W. (1974). Risk and Insurance (2nd ed.). Englewood Cliffs, NJ: Prentice-Hall Inc.

Derogatis, L., Lipman, R., Covi, L., & Rickels, K. (1971). Neurotic symptom dimensions.
Archives of General Psychiatry, 24, 454-464.

DeVaney, S. A. (2000). Using financial ratios. In E. T. Garman, J. J. Xiao, & B. Brunsom


(Eds.), The Mathematics of Personal Financial Planning (pp. 147-161). Houston,
TX: Thompson International Learning.

Diener, E. (1984). Subjective well-being. Psychological Bulletin, 95, 542-575.

Diener, E., Sapyta, J. J., & Suh, E. (1998). Subjective well-being is essential to well-

172
being. Psychological Inquiry, 9(1), 33-37.

Diener, E., & Seligman, M. E. P. (2004). Beyond money: Toward an economy of well-
being. Psychological Science in the Public Interest, 5(1), 1-31.

Di Tella, R., MacCulloch, R., & Oswald, A. (2001). Preferences over inflation and
unemployment: Evidence from Surveys of Happiness. American Economic
Review, 91, 335-341.

Dohmen, T. J., Falk, A., Huffman, D., Sunde, U., Schupp, J., & Wagner, G. G. (2005).
Individual risk attitudes: New evidence from a large, representative,
experimentally-validated survey. IZA Discussion Paper, No. 1730, 1-56.

Dutton, J. E., & Duncan, R. B. (1987). The creation of momentum for change through the
process of strategic issue diagnosis. Strategic Management Journal, 8(3), 279-295.

Eberwein, C., Olsen, R. J., & Reagan, P. B. (2003). Intracluster correlation and complex
sampling: Do geographic data lessen the problem? Mimeo, Ohio State University.

Ekelund, J., Johansson, E., Järvelin, M. -R., & Lichtermann, D. (2005). Self-employment
and risk aversion- evidence from psychological test data. Lobour Economics,
12(5), 649-659.

Faff, R. W., Mulino, D., & Chai, D. (2008). On the linkage between financial risk
tolerance and risk aversion. Journal of Financial Research, 31(1), 1-23.

Fairlie, R. W. (2002). Drug dealing and legitimate self-employment, Journal of Labor


Economics, 20(3), 538-567.

Fama, E., & Schwert, G. (1977). Human capital and capital market equilibrium. Journal
of Financial Economics, 4(1), 95-125.

Feinberg, R. M. (1977). Risk aversion, risk, and the duration of unemployment. The
Review of Economics and Statistics, 59(3), 264-271.

Flug, K., Spilimbergo, A., & Wachtenheim, E. (1998). Investment in education: Do


economic volatility and credit constraints matter? Journal of Development
Economics 55(2), 465-481.

Focardi, S. M., & Fabozzi, F. J. (2004). The Management of Financial Modeling and
Investment Management. Hoboken, NJ: John Wiley & Sons, Inc.

Frey, B. S., & Stutzer, A. (2002). Happiness and Economics: How the Economy and

173
Institutions Affect Well-Being. Princeton and Oxford: Princeton University Press.

Friend, I., & Blume, M. E. (1975). The demand for risky assets. The American Economic
Review, 65(5), 900-922.

Garman, E. T., & Forgue, R. E. (1991). Personal Finance (3rd ed.). Boston: Houghton
Mifflin Company.

Garman, E. T., & Forgue, R. E. (2006). Personal Finance (8th ed.). Boston: Houghton
Mifflin Company.

Gittleman, M., & Wolff, E. N. (2004). Racial differences in patterns of wealth


accumulation. The Journal of Human Resources, 39, 193-224.

Goldsmith, A. H., Darity, W., Jr., & Veum, J. R. (1998). Race, cognitive skills,
psychological capital and wages. The Review of Black Political Economy, 26(2),
9-21.

Gollier, C. (2001). The Economics of Risk and Time. Cambridge, MA: MIT Press.

Grable, J. E. (2000). Financial risk tolerance and additional factors that affect risk taking
in everyday money matters. Journal of Business and Psychology, 14(4), 625-630.

Grable, J. E. (2008). Risk tolerance. In J. J. Xiao (Eds.), Handbook of Consumer Finance


Research (pp. 3-19). New York: Springer New York.

Grable, J.E., & Lytton, R.H. (1999a). Assessing financial risk tolerance: Do demographic,
socioeconomic, and attitudinal factors work? Family Relations and Human
Development/Family Economics and Resource Management Biennial, 80-88.

Grable, J. E., & Lytton, R. H. (1999b). Financial risk tolerance revisited: The
development of a risk assessment instrument. Financial Services Review, 8(3),
163-181.

Graham, J. W. (1981). An examination for the correlation of stocks of nonhuman capital


with investment in human capital. The American Economic Review, 71, 248-255.

Graham, J. W., & Webb, R. H. (1979). Stocks and depreciation of human capital: New
evidence from a present-value perspective. The Review of Income and Wealth,
25(2), 209-224.

Greene, M. R. (1962). Risk and Insurance. Cincinnati, OH: South-Western Publishing Co.

174
Griffith, R. (1985). Personal financial statement analysis: A modest beginning. In G.
Langrehr (Ed.), Proceedings of the Third Annual Conference of the Association
for Financial Counseling and Planning Education (pp.123- 131).

Gruber, J. H., & Mullainathan, S. (2005). Do cigarette taxes make smokers happier?
Advances in Economic Analysis & Policy, 5(1), Article 4.

Guiso, L., & Paiella, M. (2004). The role of risk aversion in predicting individual
behaviour. CEPR Discussion Paper, No.4591, 1-35.

Gutter, M. S., & Fontes, A. (2006). Racial differences in risky asset ownership: A two-
stage model of the investment decision-making process. Financial Counseling
and Planning, 17(2), 64-78.

Gutter, M. S., Fox, J., & Montalto, C. P. (1999). Racial differences in investor decision
making. Financial Services Review, 8(3), 149-162.

Haliassos, M., & Bertaut, C. C. (1995). Why do so few hold stocks? The Economic
Journal, 105, 1110-1129.

Hanna, S. D., Chang, Y., Fan, X., & Bae, M. (1993). Emergency fund levels of
households: Is household behavior rational? The Proceedings of 39th American
Council on Consumer Interests (pp. 215-222).

Hanna, S. D., & Chen, P. (1997). Subjective and objective risk tolerance: Implications for
optimal portfolios. Financial Counseling and Planning, 8(2), 17-26.

Hanna, S. D., Gutter, M. S., & Fan, J. X. (2001). A measure of risk tolerance based on
economic theory. Financial Counseling and Planning, 12(2), 53-60.

Hanna, S. D., & Lindamood, S. (2004). An improved measure of risk aversion. Financial
Counseling and Planning, 15(2), 27-38.

Hariharan, G., Chapman, K. S., & Domian, D. L. (2000). Risk tolerance and asset
allocation for investors nearing retirement. Financial Services Review, 9(2), 159-
170.

Harmon, C., Hogan, V., & Walker, I. (2003). Dispersion in the economic return to
schooling. Labour Economics, 10(2), 205-214.

Hartog, J., & Oosterbeek, H. (1998). Health, wealth, and happiness: Why pursue a higher
education? Economics of Education Review, 17(3), 245-256.

175
Heaton, J., & Lucas, D. (2000). Portfolio choice and asset prices: The importance of
entrepreneurial risk. Journal of Finance, 55(3), 1163-1198.

Hersch, J., & Pickton, T. S. (1995). Risk-taking activities and heterogeneity of job-risk
tradeoffs. Journal of Risk and Uncertainty, 11(3), 205-217.

Hersch, J., & Viscusi, W. K. (1990). Cigarette smoking, seatbelt use, and differences in
wage-risk tradeoffs. Journal of Human Resources, 25(2), 202-207.

Highhouse, S., & Yüce, P. (1996). Perspectives, perceptions, and risk-taking behavior.
Organizational Behavior and Human Decision Processes, 65(2), 159-167.

Hong, G. -S., & Swanson, P. M. (1995). Comparison of financial well-being of older


women: 1977 and 1989. Financial Counseling and Planning, 6, 129-138.

Hong, H., Kubik, J. D., & Stein, J. C. (2004). Social interaction and stock market
participation. The Journal of Finance, 59(1), 137-163.

Hong, S. M., & Giannakopoulos, E. (1994). The relationship of satisfaction with life to
personality characteristics. Journal of Psychology: Interdisciplinary and Applied,
128(5), 547-58.

Huang, X. X. (2008). Portfolio selection with a new definition of risk. European Journal
of Operational Research, 186(1), 351–357.

Idler, E. L., & Angel, R. J. (1990). Self-rated health and mortality in the NHANES-I
epidemiologic follow-up study. American Journal of Public Health, 80, 446–452.

Irwin, C. E. (1993). Adolescence and risk taking: How are they related? In N. J. Bell & R.
W. Bell (Eds.), Adolescent Risk Taking (pp. 1-6). Newbury Park, CA: Sage.

Jianakoplos, N. A., & Bernasek, A. (1998). Are women more risk averse? Economic
Inquiry, 36(4), 620-30.

Johnson, J. A., & Coons, S. J. (1998). Comparison of the EQ-5D and SF-12 in an adult
US sample. Quality of Life Research, 7, 155-166.

Kahneman, D., & Krueger, A. B. (2006). Developments in the measurement of subjective


well-being. Journal of Economic Perspectives, 20(1), 3-24.

Keister, L. A., & Moller, S. (2000). Wealth inequality in the United States. Annual
Review of Sociology, 26, 63-81.

176
Keith, P. M., Dobson, C. D., Goudy, W. J., & Powers, E. A. (1981). Older men:
Occupation, employment status, household involvement, and well-being. Journal
of Family Issues, 2(3), 336-349.

Keith, P. M., & Schafer, R. B. (1987). Relative deprivation, equity/inequity, and


psychological well-being: Men and women in one- and two-job families. Journal
of Family Issues, 8(2), 199-211.

Kemna, H. J. M. I. (1987). Working conditions and the relationship between schooling


and health. Journal of Health Economics, 6, 189-210.

Kennedy, P. (1998). A Guide to Econometrics (4th ed.). Cambridge, MA: The MIT Press.

Kim, H. K., & McKenry, P. C. (2002). The relationship between marriage and
psychological well-being. Journal of Family Issues, 23(8), 885-911.

Kimball, M. S., Sahm C., & Shapiro, M. D. (2005). Using survey-based risk tolerance.
University of Michigan Working Paper.

Knight, F. H. (1921). Risk, Uncertainty and Profit. Boston: Houghton Mifflin Co.

Kodde, D. A. (1986). Uncertainty and the demand for education. The Review of
Economics and Statistics, 68(3), 460-467.

Kogan, N., & Wallach, M. A. (1964). Risk Taking: A Study in Cognition and Personality.
New York: Holt, Rinehart & Winston.

Koop, G., & Tobias, J. (2002). Learning about unobserved heterogeneity in returns to
schooling. Mimeo, Department of Economics, University of Glasgow.

Kotlikoff, L. J., & Summers, L. H. (1981). The role of intergenerational transfers in


aggregate capital accumulation. Journal of Political Economy, 89(4), 706-732.

Krause, N. M., & Jay, G. M. (1994). What do global self-rated health items measure?
Medical Care, 32(9), 930-942.

Krueger, A. B., & Siskind, A. (1998). Using survey data to assess bias in the consumer
price index. Monthly labor Review, 121(4), 24-33.

Lee, H. K. & Hanna, S. D. (1995). Investment portfolios and human wealth. Financial
Counseling and Planning, 6, 147-152.

LeRoy, S. F. & Werner, J. (2001). Principles of Financial Economics. New York:

177
Cambridge University Press.

Levhari, D., & Weiss, Y. (1974). The effect of risk on the investment in human capital.
American Economic Review, 64(6), 950-963.

Lewinsohn, P. M., Redner, J. E., & Seeley, J. R. (1991). The relationship between life
satisfaction and psychosocial variables: New perspectives. In F. Strack, M. Argyle,
& N. Schwarz (Eds.), Subjective Well-Being: An Interdisplinary Perspective (pp.
141-72). Oxford, UK: Pergamon.

Libby, R., & Fishburn, P. C. (1977). Behavioral model of risk taking in business decision:
A survey and evaluation. Journal of Accounting Research, 15(2), 272-292.

Liberman, J. (1980). Human capital and the financial capital market. Journal of Business,
53 (2), 165-191.

Litner, J. (1965). The valuation of risk assets and the selection of risky investments in
stock portfolios and capital budgets. Review of Economics and Statistics, 51(2),
220-221.

Lopes, L. L. (1983). Some thoughts on the psychological concept of risk. Journal of


Experimental Psychology: Human Perception and Performance, 9(1), 137-144.

Lopes, L. L. (1987). Between hope and fear: The psychology of risk. In L. Berkowitz
(Ed.), Advances in Experimental Social Psychology (pp. 255-295). San Diego:
Academic Press.

Loury, G. C. (1998, June 7). Why more Blacks don’t invest. The New York Times Sunday
Magazine.

Low, S. A., & Ormiston, M. B. (1991). Stochastic earnings functions, risk, and the rate of
return to schooling, Southern Economic Journal, 57(4), 1124-1132.

Lyons, A. C., & Yilmazer, T. (2004). How does marriage affect the allocation of assets in
women’s defined contribution plans? Consumer Interests Annual, 50, 30-39.

Mabry, T. (1999, May 14). Black investors stay away from stocks. The Wall Street
Journal.

MacCrimmon, K. R., & Wehrung, D. A. (1986). Taking Risks: The Management of


Uncertainty. New York: Free Press.

MacCrimmon, K. R., & Wehrung, D. A. (1990). Characteristics of risk taking executives.

178
Management Science, 36(4), 422-435.

Magee, J. H., & Bickelhaupt, D. L. (1964). General Insurance (7th ed.). Homewood, IL:
Richard D. Irwin, Inc.

Magrabi, F. M., Chung, Y. S., Cha, S. S., & Yang, S. -J. (1991). The Economics of
Household Consumption. New York: Greenwood Publishing Group.

March, J. G. (1978). Bounded rationality, ambiguity, and the engineering of choice. Bell
Journal of Economics, 9(2), 587-608.

March, J. G., & Shapira, Z. (1987). Managerial perspectives on risk and risk taking.
Management Science, 33(11), 1404-1418.

Markowitz, H. (1952). Portfolio selection. Journal of Finance, 7(1), 77-91.

Marks, G. N., & Fleming, N. (1999). Influences and consequences of well-being among
Australian young people: 1980-1995. Social Indicators Research, 4, 301-323.

Mason, J. W., & Griffith, R. (1988). New ratios for analyzing and interpreting personal
financial statements. Journal of the Institute of Certified Planners, Spring, 71-87.

McInish, T. H., Ramaswami, S. N., & Srivastava, R. K. (1993). Do more risk-averse


investors have lower net worth and income? The Financial Review, 28(1), 91-106.

Meyers, L. S., Gamst, G., & Guarino, A. J. (2006). Applied Multivariate Research:
Design and Interpretation. Thousand Oaks, CA: Sage Publication, Inc.

Miilunpalo, S., Vuori, I., Oja, P., Pasanen, M., & Urponen, H. (1997). Self-rated health
status as a health measure: The predictive value of self-reported health status on
the use of physician services and on mortality in the working-age population.
Journal of Clinical Epidemiology, 50(5), 517-28.

Mirer, T. W. (1983). Economic Statistics and Econometrics. New York: Macmillan


Publishing Co., Inc.

Mittra, S. (1995). Practicing Financial Planning: A Complete Guide for Professionals.


Michigan: Mittra & Associates.

Moore, K. A., Evans, V. J., Brooks-Gunn, J., & Roth, J. (2001). What are good child
outcomes? In A. Thornton (Ed.), The Well-Being of Children and Families:
Research and Data Needs (pp. 59-84). Ann Arbor, MI: University of Michigan

179
Press.

Morin, R. A., & Suarez, A. F. (1983). Risk aversion revisited. The Journal of Finance,
38(4), 1201-1216.

Morningstar (2007). Yearbook of Stocks, Bonds, Bills, and Inflation.

Mossin, J. (1966). Equilibrium in a capital asset market. Econometrica, 34(4), 768-783.

Mullis, R. J. (1992). Measures of economic well-being as predictors of psychological


well-being. Social Indicators Research, 26(2), 119-135.

Osberg, L., & Sharpe, A. (2002). An index of economic well-being. The Journal of
Social Health, 1(2), 24-62.

Park, M. J., & DeVaney, S. A. (2007). Examining a model of economic well-being based
on financial ratios. Consumer Interests Annual, 53, 131-145.

Pavot, W., & Diener, E. (1993). Review of the satisfaction with life scale. Psychological
Assessment, 5(2), 164-172.

Prather, C. G. (1990). The ratio technique applied to personal financial statements:


Development of household norms. Financial Counseling and Planning, 1, 53-69.

Pratt, J. W. (1964). Risk aversion in the small and the large. Econometrica, 32, 122-136.

Quinn, J. F. (1987). The economic status of the elderly: Beware of the mean. Review of
Income and Wealth, 33(1), 63-82.

Rable, W. H. (1968). Further comment. Journal of Risk and Insurance, 35(4), 611.

Rha, J. Y., Montalto, C. P., & Hanna, S. D. (2006). The effect of self-control mechanisms
on household saving behavior. Financial Counseling and Planning, 17(2), 3-16.

Robins, R. W., Hendin, H. M., & Trzesniewski, K. H. (2001). Measuring global self-
esteem: Construct validation of a single-item measure and the Rosenberg self-
esteem scale. Personality and Social Psychology Bulletin, 27(2), 151-161.

Rosen, H. S., & Wu, S. (2004). Portfolio choice and health status. Journal of Financial
Economics, 72(3), 457-484.

Rosenberg, M. (1965). Society and the Adolescent Self-Esteem. Princeton, NJ: Princeton

180
University Press.

Sahm, C. R. (2007). Does risk tolerance change? Job Market Paper, 1-42.

Saks, R. E., & Shore, S. H. (2005). Risk and career choice. Advances in Economic
Analysis and Policy, 5(1), 1414-1458.

Schaefer, R. E. (1978). What are we talking about when we talk about “risk?” A critical
survey of risk and risk tolerance theories (RM-78-690). Laxenburg, Austria:
Institute for Applied Systems Analysis.

Schoemaker, P. J. H. (1982). The expected utility model: Its variants, purposes, evidence
and limitations. Journal of Economic Literature, 20(2), 529-563.

Scholle, S. H., Whiteside, L., Kelleher, K., Bradley, R., & Casey, P. (1995). Health status
of preterm low-birth-weight infants. Comparison of maternal reports. Archives of
Pediatrics & Adolescent Medicine, 149(12), 1351-1357.

Schooley D. K., & Worden, D. D. (1996). Risk aversion measures: Comparing attitudes
and asset allocation. Financial Services Review, 5(2), 87-99.

Sciortino, J. J., Huston, J. H., & Spencer, R. W. (1988). Risk and income distribution.
Journal of Economic Psychology, 9(3), 399-408.

Sharpe, W. F. (1964). Capital Asset Prices: A Theory of Market Equilibrium under


Conditions of Risk. Journal of Finance, 19(3), 425-442.

Shaw, K. L. (1996). An empirical analysis of risk aversion and income growth. Journal
of Labor Economics, 14(4), 626-653.

Shin, D. C., & Johnson, D. M. (1978). Avowed happiness as an overall assessment of the
quality of life. Social Indicators Research, 5, 475-492.

Siegel, F. W., & Hoban, J. P., Jr. (1982). Relative risk aversion revisited. Review of
Economics and Statistics, 64(3), 481-487.

Siegel, F. W., & Hoban, J. P., Jr. (1991). Measuring risk aversion: Allocation, leverage,
and accumulation. Journal of Financial Research, 14, 27-35.

Sitkin, S. B., & Pablo, A. L. (1992). Reconceptualizing the determinants of risk behavior.
Academy of Management Review, 17(1), 9-38.

Sokolowska, J., & Pohorille, A. (2000). Models of risk and choice: Challenge or danger.

181
Acta Psychologica, 104(3), 339-369.

Spivey, C. (2007). Desperation or desire? The role of risk aversion in marriage. Working
Paper, Southern Illinois University Edwardsville.

Stevenson, T. H., & Plath, D. A. (2002). Marketing financial services to the African
American consumer: A comparative analysis of investment portfolio consumption.
California Management Review, 44(4), 39-64.

Strube, M. J. (1991). Type A Behavior. Newbury Park, CA: Sage Publications.

Sung, J., & Hanna, S. D. (1996). Factors Related to Risk Tolerance, Financial
Counseling and Planning, 7(1), 11-20.

Taylor, J. W. (1974). The role of risk in consumer behavior. Journal of Marketing, 38(2),
54-60.

Thornton, A. (2001). Introduction and Overview. In A. Thornton (Ed.), The Well-Being


of Children and Families: Research and Data Needs (pp. 3-27). Ann Arbor, MI:
University of Michigan Press.

Thurow, L. C. (1975). Generating Inequality. New York: Basic Books.

Thurow, L. C. (1983). Dangerous Currents. New York: Random House.

U.S. Census Bureau (2000). Educational Attainment of the Population 15 Years and Over,
by Age, Sex, Race and Hispanic.

U.S. Census Bureau (2006). Enrollment Status of the Population 3 Years Old and Over,
by Sex, Age, Race, Hispanic Origin, Foreign Born, and Foreign-Born Parentage.

U.S. Census Bureau (2007). Oldest baby boomers turn 60 (CB06-FFSE.01-2).

U.S. Department of Education (2007). Expenditures of educational institutions related to


the gross domestic product, by level of institution: Selected years, 1929-30
through 2006-07.

Veenhoven, R. (1993). Happiness in Nations: Subjective Appreciation of Life in 56


Nations, 1946-1992. Rotterdam, Netherlands: Erasmus University Press.

Veenhoven, R. (1996). Developments in satisfaction research. Social Indicators Research,


37, 1-46.

182
Viscusi, W. K., & Hersch, J. (2001). Cigarette smokers as job risk takers. The Review of
Economics and Statistics, 83(2), 269-280.

Vlek, C., & Stallen, P. J. (1980). Rational and personal aspects of risk. Acta Psuchology,
45(1-3), 273-300.

von Neumann, J., & Morgenstern, O. (1947). Theory of Games and Economic Behavior.
Princeton, NJ: Princeton University Press.

Wang, C., & Hanna, S. D. (2007). The risk tolerance and stock ownership of business
owning households. Financial Counseling and Planning, 18(2), 3-18.

Wang, H., & Hanna, S. D. (1997). Does risk tolerance decrease with age? Financial
Counseling and Planning, 8(2), 27-32.

Ware, J. E., Jr. (1995). The status of health assessment 1994. Annual Review of Public
Health, 16, 327-354.

Wärneryd, K. -E. (1996). Risk attitudes and risky behavior. Journal of Economic
Psychology, 17(6), 749-770.

Weber, E. U. (2003). Risk-attitude scale: Methodology and sample characteristics. DRDC


Toronto CR 2003-123, 1-7.

Weber, E. U., Blais, A. -R., & Betz, N. E. (2002). A domain-specific risk-attitude scale:
Measuring risk perceptions and risk behaviors. Journal of Behavioral Decision
Making, 15(4), 263-290.

WHO Collaborating Center (1998). WHO (five) well-being index.

Williams, D. G. (1988). Gender, marriage, and psychological well-being. Journal of


Family Issues, 9(4), 452-468.

Williams, J. T. (1978). Risk, human capital, and the investor’s portfolio. The Journal of
Business, 51(1), 65-89.

Winger, B. J., & Frasca, R. R. (2000). Personal Finance: An Integrated Planning


Approach. Upper Saddle River, NJ: Prentice Hall.

Wolff, E. N. (1996). The size distribution of wealth in the United States: A comparison
among recent household surveys. Working Paper, Department of Economics, New
York University.

183
Wooldridge, J. M. (2002). Econometric Analysis of Cross Section and Panel Data.
Cambridge, MA: The MIT Press.

World Health Organization (1978). Constitution. In Basic Documents. Geneva,


Switzerland: World Health Organization.

Xiao, J. J., Alhabeeb, M. J., Hong, G. S., & Haynes, G. W. (2001). Attitude toward risk
and risk-taking behavior of business-owning families. Journal of Consumer
Affairs, 35(2), 307-325.

Yamokoski, A.,& Keister, L. A. (2006). The wealth of single women: Marital status and
parenthood in the asset accumulation of young baby boomers in the United States.
Feminist Economics, 12(1-2), 167-194.

Yao, R, Gutter, M., & Hanna, S. D. (2005). The financial risk tolerance of blacks,
Hispanics and whites. Financial Counseling and Planning, 16(1), 51-62.

Yao, R., Hanna, S. D., & Lindamood, S. (2004). Changes in financial risk tolerance,
1983-2001. Financial Services Review, 13(4), 249-266.

Yates, J. F., & Stone, E. R. (1992). The Risk Construct, Risk-Taking Behavior. In J. F.
Yates (Eds.), Risking Taking Behavior. New York: John Wiley & Sons Ltd.

Zagorsky, J. L. (1997). NLSY79 Users’ Guide. Columbus, OH: The Ohio State University,
Center for Human Resource Research.

Zagorsky, J. L. (1999). Young baby boomers’ wealth. Review of Income and Wealth,
45(2), 135-156.

Zagorsky, J. L. (2003). Husbands’ and wives’ view of the family finances. Journal of
Socio-Economics, 32(2), 127-146.

Zagorsky, J. L. (2004). The wealth effects of smoking. Tobacco Control, 13(4), 370-374.

Zagorsky, J. L. (2007). Do you have to be smart to be rich? The impact of IQ on wealth,


income and financial distress. Intelligence, 35(5), 489-501.

Zedlewski, S. R. (2000). Family economic well-being: Findings from the national survey
of America’s families. Washington, DC: Snapshots of America’s Families II, 1-8.

Zhong, L. X., & Xiao, J. J. (1995). Determinants of family bond and stock holdings.
Financial Counseling and Planning, 6, 107-114.

184
APPENDIX A

ROSENBERG’S (1965) 10-ITEM GLOBAL SELF-ESTEEM INSTRUMENT

185
Item Description Scale
1 I feel that I'm a person of worth, at least on equal basis with others. 1: Strongly agree
2: Agree
2 I feel that I have a number of good qualities. 3: Disagree
4: Strongly disagree
3 All in all, I am inclined to feel that I am a failure.

4 I am able to do things as well as most other people.

5 I feel I do not have much to be proud of.

6 I take a positive attitude toward myself.

7 On the whole, I am satisfied with myself.

8 I wish I could have more respect for myself.

9 I certainly feel useless at times.

10 At times I think I am no good at all.

Table A.1. Rosenberg’s (1965) 10-item global self-esteem instrument

186
APPENDIX B

ILLEGAL ACTIVITIES INVOLVED IN 1979 IN THE NLSY79

187
Description Scales Categories
1 Purposely damaged or destroyed property that did not belong to 0: None Stealing
you? 1: Once
2 Gotten into a physical fight at school or work? 2: Twice Fighting and
3: 3-5 times attacking
3 Taken something from a store without paying for it? 4: 6-10 times Stealing
5: 11-50
4 Other than from a store, taken something not belonging to you times Stealing
worth under $50? 6: > 50 times
5 Other than from a store, taken something not belonging to you (The 2nd and Stealing
worth $50 or more? 3rd categories
6 Used force or strong arm methods to get money or things from a being Criminal
person? combined, income
7 Hit or seriously threatened to hit someone? resulting in 6 Fighting and
categories attacking
8 Attacked someone with the idea of seriously hurting or killing ranging from Fighting and
them? 0 to 5) attacking
9 Smoked marijuana or hashish (“POT,” ”Grass,” “Hash”)? Drug use and
sales
10 Used any drugs or chemicals to get high or for kicks, except Drug use and
marijuana? sales
11 Sold marijuana or hashish? Drug use and
sales
12 Sold hard drugs such as heroin, cocaine, or LSD (total # of all Criminal
hard drug sales)? income
13 Tried to get something by lying to a person about what you Fighting and
would do for him, that is, tried to con someone? attacking
14 Taken a vehicle for a ride or drive without the owner’s Stealing
permission?
15 Broken into a building or vehicle to steal something or just to Stealing
look around?
16 Knowingly sold or held stolen goods? Stealing

17 Helped in a gambling operation, like running numbers or policy Criminal


or books? income
18 Sometimes people can make money from the types of activities 1: None Criminal
you have just read. Still thinking about the last year, how much 2: Very little income
of your total income or support during the last year came from 3: About 1/4
illegal activities? 4: About 1/2
5: About 3/4
6: Almost all
(Recoded,
ranging from
0 to 5)

Table B.1. Illegal Activities involved in 1979 in the NLSY79

188
APPENDIX C

RESULTS OF SIMULTANEOUS EQUATIONS MODELS FOR RISKY


INVESTMENTS

189
(1) (2)
Years of Ratio of risky Years of Ratio of risky
schooling financial schooling financial
assets to assets to
financial financial
assets in 2004 assets in 2004
Variables Coeff. Coeff. Coeff. Coeff.
Objective risk tolerance in 1979
Stealing 0.004 0.038
(0.116) (0.028)
Drug use and sales -0.192*** -0.013
(0.036) (0.009)
Fighting and attacking -0.138* 0.012
(0.074) (0.018)
Earning criminal income -0.175 -0.014
(0.143) (0.034)
Survey-based risk tolerance in 1993
Most risk tolerant 0.118 -0.029 0.147* -0.028
(0.081) (0.020) (0.081) (0.020)
Moderately risk tolerant 0.022 -0.031 0.020 -0.032
(0.089) (0.021) (0.088) (0.021)
Weakly risk tolerant 0.144 -0.038 0.142 -0.038
(0.099) (0.024) (0.098) (0.024)
Survey-based risk tolerance in 2002
Most risk tolerant 0.008 0.006
(0.022) (0.022)
Moderately risk tolerant -0.019 -0.018
(0.022) (0.022)
Weakly risk tolerant 0.011 0.011
(0.025) (0.025)

Continued

Table C.1. Results of Simultaneous Equations Models for Years of Schooling and Ratio
of Risky Financial Assets to Financial Assets

190
Table C. 1. Continued

(1) (2)
Years of Ratio of risky Years of Ratio of risky
schooling financial schooling financial
assets to assets to
financial financial
assets in 2004 assets in 2004
Variables Coeff. Coeff. Coeff. Coeff.
Survey-based risk tolerance in 2004
Most risk tolerant 0.025 0.024
(0.023) (0.023)
Moderately risk tolerant 0.039* 0.040*
(0.023) (0.023)
Weakly risk tolerant 0.005 0.005
(0.021) (0.021)

Net worth in 2000 ( W ) 1.24E-7*** 1.219E-7***


(2.503E-8) (2.503E-8)

Total family income in 2003 ( ln I ) 0.022*** 0.022***


(0.005) (0.005)

Education investment in 2004 ( Ê )


Years of schooling 0.061*** 0.062***
(0.006) (0.006)
Preference characteristics ( P )
Age of respondent in 2004 0.104*** 0.002 0.110*** 0.003
(0.015) (0.003) (0.016) (0.003)
Male -0.347*** 0.022 -0.273*** 0.016
(0.065) (0.015) (0.067) (0.016)
Race/ethnicity
Hispanic 0.487*** -0.029 0.433*** -0.031
(0.104) (0.023) (0.104) (0.023)
Black 0.825*** -0.013 0.779*** -0.014
(0.091) (0.020) (0.090) (0.021)

Continued

191
Table C. 1. Continued

(1) (2)
Years of Ratio of risky Years of Ratio of risky
schooling financial schooling financial
assets to assets to
financial financial
assets in 2004 assets in 2004
Variables Coeff. Coeff. Coeff. Coeff.
Married in 1980 -0.738*** -0.770***
(0.116) (0.116)
Presence of children in 1980 -0.366*** -0.365***
(0.128) (0.127)
Individual ability 0.043*** 0.043***
(0.001) (0.001)
Education level of father 0.062*** 0.065***
(0.011) (0.015)
Education level of mother 0.059*** 0.063***
(0.015) (0.011)
Number of siblings of respondent -0.064*** -0.062***
(0.014) (0.014)
Education level of oldest sibling 0.094*** 0.092***
(0.010) (0.009)
Marital status in 2004
Never married -0.021 -0.021
(0.028) (0.028)
Separated, divorced, or widowed -0.028 -0.026
(0.023) (0.023)
Self-employed in 2004 0.037 0.039
(0.027) (0.027)
Presence of children in 2004 -0.020 -0.019
(0.023) (0.023)
Family size in 2004 0.008 0.008
(0.008) (0.008)

Continued

192
Table C. 1. Continued

(1) (2)
Years of Ratio of risky Years of Ratio of risky
schooling financial schooling financial
assets to assets to
financial financial
assets in 2004 assets in 2004
Variables Coeff. Coeff. Coeff. Coeff.
Had inherited wealth in 2004 0.030 0.028
(0.029) (0.029)
Primary home owned in 2004 0.119*** 0.121***
(0.020) (0.020)
Secondary home owned in 2004 0.102*** 0.102***
(0.026) (0.026)
Control variables ( X E , X F , X WB )

Region of residence in 2004


Northeast -0.250** 0.041* -0.210** 0.042*
(0.101) (0.024) (0.101) (0.024)
North Central -0.303*** 0.051*** -0.289*** 0.050**
(0.082) (0.019) (0.082) (0.019)
West -0.159* -0.002 -0.119 -0.001
(0.092) (0.022) (0.092) (0.022)
Urban-country residence at age 14
Urban 0.031 0.074
(0.078) (0.078)
Intercept 5.364*** -0.841*** 5.207*** -0.917***
(0.674) (0.170) (0.687) (0.175)
Sample size = 3,425

Test of model fit F-value: F value: F-value: F-value:


139.72 26.24 119.12 23.16
Pr>F: Pr>F: Pr>F: Pr>F:
<.0001 <.0001 <.0001 <.0001
Adj. R2: Adj. R2: Adj. R2: Adj. R2:
0.42171 0.16599 0.43148 0.16709
*Significant at p<0.1; **Significant at p<0.05; ***Significant at p<.01.
Note: Standard errors are in the parentheses.

193
(1) (2)
Dollar amount of stocks in Dollar amount of stocks in
2004 (ln) 2004 (ln)
Variables Coeff. Coeff.
Objective risk tolerance in 1979
Stealing 0.391
(0.270)
Drug use and sales -0.149*
(0.083)
Fighting and attacking 0.197
(0.172)
Earning criminal income -0.006
(0.332)
Survey-based risk tolerance in 1993
Most risk tolerant -0.266 -0.254
(0.194) (0.194)
Moderately risk tolerant -0.381* -0.385*
(0.208) (0.208)
Weakly risk tolerant -0.247 -0.253
(0.231) (0.231)
Survey-based risk tolerance in 2002
Most risk tolerant -0.018 -0.034
(0.215) (0.216)
Moderately risk tolerant -0.310 -0.305
(0.210) (0.211)
Weakly risk tolerant 0.130 0.133
(0.243) (0.243)
Survey-based risk tolerance in 2004
Most risk tolerant 0.219 0.210
(0.228) (0.228)

Continued

Table C.2. Results of Simultaneous Equations Models for Dollar Amount of Stocks

194
Table C. 2. Continued

(1) (2)
Dollar amount of stocks in Dollar amount of stocks in
2004 (ln) 2004 (ln)
Variables Coeff. Coeff.
Moderately risk tolerant 0.378* 0.386*
(0.222) (0.223)
Weakly risk tolerant 0.141 0.139
(0.205) (0.205)

Net worth in 2000 ( W ) 2.234E-6*** 2.212E-6***


(2.434E-7) (2.435E-7)

Total family income in 2003 ( ln I ) 0.223*** 0.222***


(0.053) (0.053)

Education investment in 2004 ( Ê )


Years of schooling 0.654*** 0.667***
(0.057) (0.058)
Preference characteristics ( P )
Age of respondent in 2004 0.017 0.036
(0.033) (0.034)
Male 0.300** 0.216
(0.150) (0.156)
Race/ethnicity
Hispanic -0.239 -0.257
(0.221) (0.222)
Black -0.288 -0.308
(0.199) (0.201)
Marital status in 2004
Never married -0.117 -0.118
(0.268) (0.268)
Separated, divorced, or widowed -0.215 -0.187
(0.221) (0.222)

Continued

195
Table C. 2. Continued

(1) (2)
Dollar amount of stocks in Dollar amount of stocks in
2004 (ln) 2004 (ln)
Variables Coeff. Coeff.
Self-employed in 2004 0.335 0.353
(0.266) (0.266)
Family size in 2004 0.065 0.062
(0.075) (0.075)
Had inherited wealth in 2004 0.406 0.391
(0.278) (0.278)
Primary home owned in 2004 1.271*** 1.287***
(0.197) (0.198)
Secondary home owned in 2004 1.287*** 1.286***
(0.254) (0.254)

Control variables ( X E , X F ,
X WB )
Region of residence in 2004
Northeast 0.554** 0.555**
(0.232) (0.233)
North Central 0.503*** 0.494***
(0.188) (0.189)
West -0.027 -0.006
(0.212) (0.213)
Intercept -9.206*** -10.225***
(1.649) (1.698)
Sample size = 3,425
Test of model fit F value: F-value:
37.97 33.44
Pr>F: Pr>F:
<.0001 <.0001
Adj. R2: Adj. R2:
0.22573 0.22703
*Significant at p<0.1; **Significant at p<0.05; ***Significant at p<.01.
Note: Standard errors are in the parentheses.

196