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Failure in one area seldom had direct impact on another. Today, the tools we use are complex, and breakdowns can be catastrophic, with far-reaching consequences.
Today, we rely less on superstition and tradition than people did in the past, not because we are more rational, but because our understanding of risk enables us to make decisions in a rational mode.
In 1952, Nobel Laureate Harry Markowitz, then a young graduate student studying operations research at the University of Chicago, demonstrated mathematically why putting all your eggs in one basket is an unacceptably risky strategy and why diversification is the nearest an investor or business manager can ever come to a free lunch.
The issue boils down to one’s view about the extent to which the past determines the future.
Fischer Black, a pioneering theoretician of modern finance who moved from M.I.T. to Wall Street, said, “Markets look a lot less efficient from the banks of the Hudson than from the banks of the Charles.
The mathematically driven apparatus of modern risk management contains the seeds of a dehumanizing and self-destructive technology. Nobel laureate Kenneth Arrow has warned, “[O]ur knowledge of the way things work, in society or in nature, comes trailing clouds of vagueness. Vast ills have followed a belief in certainty.
Our lives teem with numbers, but we sometimes forget that numbers are only tools.
The dice and the roulette wheel, along with the stock market and the bond market, are natural laboratories for the study of risk because they lend themselves so readily to quantification;
The problem with this is that the stock market is not a confined environment. Casinos regulate the environment and variables greatly. As much as possible. But the bounds of Earth are it's atmosphere, neighboring planets, and the sun. If we look far enough into the long tail, rogue comets and alien life present themselves as potentials.
Pascal and Fermat
laws of probability,
fortune. Keynes had to admit that “If human nature felt no temptation to take a chance . . . there might not be much investment merely as a result of cold calculation.”3 Nobody takes a risk in the expectation that it will fail.
There are cardplayers and racetrack bettors who are genuine professionals, but no one makes a successful profession out of shooting craps.
Gamblers may think they are betting on red or seven or four-of-a-kind, but in reality they are betting on the dock. The loser wants a short run to look like a long run, so that the odds will prevail. The winner wants a long run to look like a short run, so that the odds will be suspended.
Unlike gamblers, insurance companies carry capital and put aside reserves to tide them over during the inevitable sequences of short runs of bad luck.
Time is the dominant factor in gambling.
Time transforms risk, and the nature of risk is shaped by the time horizon: the future is the playing field.
Future uncertainty = risk
Hamlet complained that too much hesitation in the face of uncertain outcomes is bad because “the native hue of resolution is sicklied o’er with the pale cast of thought . . . and
enterprises of great pith and moment . . . lose the name of action.
Hamlet had it wrong: he who hesitates is halfway home.
Probability theory seems a subject made to order for the Greeks, given their zest for gambling, their skill as mathematicians, their mastery of logic, and their obsession with proof.
Genuflection
A penny saved is not a penny earned unless the future is something more than a black hole.
