We extend the literature of life-cycle portfolio allocation modeling by introducing a wage-indexed Social Security system to attempt to explain the stock non-participation puzzle. We solve a partial equilibrium with said retirement program, uninsurable labor income, liquidity constraints, and fixed cost of entry to the stock market. Participation in the retirement program presents the investor with implicit holdings of two noninsurable assets: human capital and retirement wealth. The computation of benefits as a function of lifetime wages creates a correlation between these assets. Theoretically, such correlation would further decrease the demand for stocks. We hypothesize that this may help shed some light in market non-participation, particularly for households whose welfare thrives in a booming economy and who rely on Social Security as a big portion of their retirement wealth. 2 1

We study life-cycle asset allocation in the presence of liquidity constraints and undiversifiable labor income risk. The model includes three assets (cash, long-term government bonds and stocks) and takes into account for the life-cycle profile of housing expenditures. We find that a small fixed cost can rationalize the participation rates observed in the data, for very low values of risk aversion (less than 2). Somewhat counterintuitively, participation rates are an increasing function of risk aversion. We show that this arises from the link between risk aversion and prudence, which in turn implies that explanations for the participation puzzle based on the role of background risk (consumption risk, labor income risk or housing risk), are unlikely to succeed in exaplining stock market non-participation. With CRRA preferences it is hard to generate significant non-participation, given the link