According to Wiley: investors allocate more to the risk‐free asset and less to life insurance as the correlation between income and stock market returns increase.
- I thought when your income has a high correlation with the stock market, it will be risky and therefore you need life insurance to compensate for the loss of Human Capital …
Kaplan Schweser gives a reason for this relationship: When the correlation between income and stock market is high you discount the future income with a higher rate (because it is more risky compared to human capital with a high correlation to the bond market). Therefore the present value of the future income is less compared to a “bond style” income. As a consequence there’s less need for a life insurance as the loss of pv(future income) in the case of death wouldn’t be as high in this situation compared to a “bond style” income.
Ok, so high correlation with stock market = risky = discount at higher rate = lower PV (or Human Cap) = less need for life insurance. Thanks