American Economic Review
ISSN 0002-8282 (Print) | ISSN 1944-7981 (Online)
Optimal Security Design for Risk-Averse Investors
American Economic Review
(pp. 2050–92)
Abstract
We use the tools of mechanism design combined with the theory of risk measures to analyze how a cash-constrained owner of an asset with known, stochastic returns raises capital from a population of investors who differ in their risk aversion and budget constraints. The issuer partitions the asset's cash flow into several asset-backed securities, one for each type of investor. The optimal partition conforms to the commonly observed practice of tranching into senior debt, junior debt, and equity. Tranching arises endogenously due to the differences in risk appetites among agents and in the budget constraints they face.Citation
Gershkov, Alex, Benny Moldovanu, Philipp Strack, and Mengxi Zhang. 2025. "Optimal Security Design for Risk-Averse Investors." American Economic Review 115 (6): 2050–92. DOI: 10.1257/aer.20231597Additional Materials
JEL Classification
- D81 Criteria for Decision-Making under Risk and Uncertainty
- D82 Asymmetric and Private Information; Mechanism Design
- G12 Asset Pricing; Trading Volume; Bond Interest Rates
- G41 Behavioral Finance: Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making in Financial Markets [Neurofinance]
- G51 Household Finance: Household Saving, Borrowing, Debt, and Wealth