Risk tolerance and asset allocation for investors nearing retirement

This paper uses a large individual-level data set to isolate the effects of risk tolerance on portfolio composition. We test and confirm two predictions of the Capital Asset Pricing Model: (1) increased risk tolerance reduces an individual’s propensity to purchase risk-free assets; and (2) higher risk tolerance does not affect the composition of an individual’s portfolio of risky assets. More specifically, we find that risk tolerant investors nearing retirement do not reduce their bond allocations in order to buy more stock.