financial economics (microeconomics)

Formally, the individual's problem is to maximize the expected utility from consump- tion subject to the constraints that consumption must be nanced out of income and the realized return from the asset portfolio as well as a constraint that spending on the asset portfolio must be nanced out of the non-storable endowment wealth w. cu.c:lc%n1m{u(c) + unk\") + 1r;u{cL)} subject to CM = 3m + (11 'l' R02 (1) Cu = ya: + Ru: (2) CL = y; + RE: (3) w = [ha] + thing. (4) Denote the optimal allocation by (ch, c;,,c1,e;,a;). (i) fault-ii) = (i) R [syn'(c;,) + mu'(c;,) + MuTI-'LH. (5) 91 1. Using words, interpret the optimal trade-off condition of equation (5) and why the optimal portfolio plan must satisfy this condition. Make sure that you explain the economic tradebo, don't simply list the terms on both sides of the equality sign. You might need to make reference to equations (1) through equation (4) in describing the cuts and benets of any fumble portfolio reallocations. (25 Marks) 2. Do the asset return structures give the individual the opportunity to fully insure against consumption risk? Explain why (or why not). (25 Marks)