The 7 Most Important Equations for Your Retirement by Moshe A. Milevsky

Author:Moshe A. Milevsky
Language: eng
Format: epub
Publisher: John Wiley & Sons, Ltd.
Published: 2012-04-02T16:00:00+00:00

Chapter 5

How Much in Risky Stocks versus Safe Cash?

Equation #5: Paul Samuelson (1915–2009)

In March of 1997, MIT Professor Paul Samuelson, the Nobel Prize-winning economist, wrote a scathing letter to an impetuous and newly minted Ph.D.—a few days shy of his 30th birthday—to tell him his most recent scholarly paper was misguided and erroneous. Professor Samuelson’s main concern was that the author of the paper—a paper that was about to be published in a scholarly journal—was implicitly advocating excessive investment in risky stocks under the premise that the odds of losing money declined with time. Professor Samuelson claimed the declining probabilities in and of themselves were irrelevant and that their small magnitude must be balanced by Fisher’s “disutilities of loss.”

In plain English, if there was a mere 1% chance of losing 25% of your nest egg in the stock market, and that chance caused you sufficient psychic pain, the stock market should be avoided. There’s a 1-in-10,000 chance your house burns down, yet you buy fire insurance. Odds are only one part of a proper economic story.

The wet-behind-the-ears assistant professor of finance who got the unexpected scolding from the greatest economic scholar of the late 20th century was none other than yours truly, and this chapter is my chance for penance.

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