Modeling hedge fund leverage via power utility with subsistence

David P. Morton, Ivilina Popova*

*Corresponding author for this work

Research output: Contribution to journalArticlepeer-review


We use a power utility function with subsistence to model leverage. We prove that as the value of the subsistence level grows the allocation in the risky asset increases. The implication of this result is that if a hedge fund uses leverage, or a high water mark, it tends to have a more aggressive investment strategy. In addition, we prove that the total risk of a portfolio held by an investor with preferences described by a power utility with subsistence is a weighted sum of the covariances between the portfolio's return and higher order powers of that return, shifted by the subsistence level.

Original languageEnglish (US)
Pages (from-to)77-85
Number of pages9
JournalJournal of Derivatives and Hedge Funds
Issue number2
StatePublished - May 2013


  • hedge funds
  • leverage
  • portfolio risk
  • utility functions

ASJC Scopus subject areas

  • Finance
  • Economics and Econometrics


Dive into the research topics of 'Modeling hedge fund leverage via power utility with subsistence'. Together they form a unique fingerprint.

Cite this