Stochastic and Intransitive Behavior in a State-Preference Model of Asset Choice

ABSTRACT Most models of investor behavior assume a time‐state independent utility function and result in a deterministic solution where a given set of inputs uniquely specifies the decision. In contrast, a state preference model using a time‐state dependent utility function is derived in this paper. The model allows the investment choice decision to be analyzed in a game theoretic context. The general solution is a mixed strategy which allows for a probabilistic interpretation of the decision. The approach presented in this paper can accommodate anomalies such as intransitivity of preference and satisficing as rational behavior. An example of a possible implementation is given along with interpretations of the outcomes.