Risk Aversion of a Typical Indian Investor

In Investments, we usually use a number between 2.5 to 3 for a proxy of the degree of risk aversion of an investor. Research in US shows that the typical risk aversion of a US investor can be captured by a degree of risk aversion equal to 3.

Using data for Nifty between 1990-2004, I find that the data is consistent with a degree of risk aversion equal to 1.3 for an Indian investor. This number is too low. It implies that a typical Indian investor is less risk averse as compared to an American. This is a debatable statement. Personally, I do not agree with this. Given the poor equity cult in India, I think there is something wrong with this estimate.

We get a low estimate of A (a measure of the degree of risk aversion) when the expected return is low as compared to the standard deviation. This implies that the Indian stock market has generated lower average excess return given the high volatlity it has. This may indicate that the Indian market has remained overvalued most of the time and hence the average return is less.

Nonetheless, one thing clearly stands out. The Indian market is highly volatile given the return it generates over time. It would be definitely worthwhile to do a further research similar to the equity risk premium puzzle in US. Thus for example, one can always argue that the Indian market has generated the correct return based on the risk. It is the US market which has given higher return given its riskiness. That is what (the second statement only) Chopra and Prescot believe.




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