Corporate portfolio management

We solve the optimal portfolio problem in continuous time from the point of view of a corporation, acting on behalf of risk neutral shareholders. Our model fits for example the case of a commercial bank. Risk aversion is generated endogenously by financial frictions, and increases when the value of the firm's assets decrease. We find a remarkably simple investment policy: invest a multiple of the firm's equity into the risky asset, keep the rest as cash reserves, and distribute dividends when the value of the firm exceeds some threshold. As a consequence, the firm locally behaves as a Von Neumann-Morgenstern investor with constant relative risk aversion. © Springer-Verlag Berlin Heidelberg 2005.