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Posted by manish In:

Theory of Diversification

In financial markets everyone knows that your reward is directly proportional to the risk you take .This is wrong, in long run your reward is proportional to the systemic risk you take (i.e. the risk of the whole system) and not proportional to any unsystemic risk specific to that product. For eg say you own shares of a pharma company that’s on the verge of a miraculous discovery, If it succeeds you expect high returns but if it fails company goes bankrupt. Now in long run your reward isn’t proportional to this huge risk you’re taking. For a simple reason instead of buying shares of just one pharma company you can buy shares of all pharma companies and thus your portfolio won’t be affected that much by the bankruptcy. By diversification you have eliminated the risk specific to that company and market doesn’t reward you for the risk that can be eliminated without any extra costs.

One and half years back a friend of mine was telling me that you should keep changing your Girlfriends only then you can optimize, improve and get closer to perfection. It’s just because you’re afraid of taking risk of unknown that you’re sticking with a safe choice. I replied I am placing my whole trust, confidence in a single person for whole life , that’s a huge risk I am taking . Later on I realized that I was actually expecting high return based on unsystemic risk I was taking. This is obviously wrong and paid a very high price for this.She filed chapter 11 and Defaulted (ditched) and I had the worst crisis of my life,effect was worse even when compared to the effect that current finacial crisis and the great depression had on the economy.

What you should actually do is keep a whole portfolio of Girlfriends, this way you remove any unsystemic risk related to any particular person. And earlier I advised you to take shares of all pharma companies but don’t even be sector specific and have Girlfriends of all types so that you can eliminate even the unsystemic risk related to particular type of girls. Because in the long run you won’t be rewarded for the extra risk you’re taking for sticking with one particular girl.

Better still, In Capital Market Theory we add a Risk Free Return asset(RFR) to the portfolio. RFR is some asset from which you expect certain fixed amount of return in any situation without any risk or fear of default or non payment. In finance we assume it to be the US treasuries but here in this particular case we can assume it to be a really good friend of yours or your parents. Someone you can trust will keep on loving/liking you and wont default (leave you) even in worst of situations. This reduces the risk even further for any particular amount of return that you accept and you get closer to the amount of risk that you should take for expecting certain amount of return from life.

And hence you have a perfectly diversified portfolio having girlfriends of all types to eliminate any unsystemic risk and good friends(RFR) in certain proportion to improve your returns.

Posted by manish In:

Girls and Markets

All the meanings in this post are completely unintended and are just meant as an entertainer.So here are the 10 similarities between girls and markets..
1)Both are unpredictable.You invested your life's savings when you were 100% sure markets would go up..the result you are penniless today.Just when you thought the girl liked you..she slapped you on your face and ran away with your best friend
2)Both rate high on sensitivity index.The Dow falls when Greenspan gets a cold,your gf starts crying when you forget where you first met.
3)Nobody figured out how both these things work.AIG and Lehman became bankrupt trying to figure out how derivatives worked...so many men have been slain in thieir quest to understand the FAIRER sex.
4)Both are influenced by hundreds of factors.The markets are affected by anything and everything.Try taking out a girl to buy out a pair of jeans and you will understand what I mean
5)Both are driven by emotions.Oil peaked last year when the supply was highest,she left me when I was at the altar
6)Both would make your blood pressure rise in the longer term.If you are not a girl theres no need for any explanation
7)Patience is the key for success in both markets and girls.Try being impatient and you'll be out of the markets in a few days and your girl will leave you in a few hours
8)Both can be interpreted in a million ways.A pause near the resistance zone is seen as a top by one analyst and consolidation by another.Her yes is seen as "no" by one boy and "yes" by another :)
9)Both have their own dark secrets-thousands of them.Insider trading and stock markets rule the roost in markets.Try asking the girl what she just talked about to her friend ...or your gf might know about your past,do you know about hers
10)Both will leave you when you are broke.Market doesnt give you a chance to bet without money.Remember the girl who liked you but left you for that Harvard grad :)

manish

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Theory of Diversification

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