# Financial Advice for my Son (and JPL/CIT Employees)

## Investing

### Risk And Return

**Definition of Risk**
Any investment can be characterized by its riskiness. The definition
is simple for anyone who understands a standard deviation, since
"risk" in investment parlance is simply the standard
deviation of returns from that investment!! There is all sort
of confusion in financial literature because either the authors
don't understand what a sigma is or because the authors assume
that their audience does not understand what a sigma is! Be aware
that Gaussian statistics do not hold - there is a tail at large
sigma that significantly exceeds that expected from Gaussian statistics.
For example, the 1929 and 1987 stock market crashes were each
about a 10 sigma event, which would only happen once in the lifetime
of the planet under Gaussian statistics!

Confusion also reigns because rarely do authors or salesmen tell
you on what time scale is the sigma calculated.

Furthermore, even fewer people understand how to calculate the
significance of any given number. For example, lists of "the
best mutual funds over the last year" are virtually meaningless!
That is, in general there is no significance to the fact that
a given fund did better than another fund over the last year.
The half of mutual funds that do better than the other half in
a given year are __just as likely__ to be in the bottom half
in the next year as in the top half!!! (This is not to say all
mutual funds are identical, see below.)

Because even so-called investment experts often don't understand
the above, investment literature often closely resembles the fields
of quackery (cancer cures) and dieting plans in the misinformation
and wild schemes that are often presented.

If you have understood the last few paragraphs, you are immediately
way ahead of at least 90% of the general public in the field of
investing.

**Return and risk**

In general, if you want a higher return, you must accept more
risk. This makes perfect sense: no one in their right mind would
put their money in a riskier investment unless they expect to
get a higher return. The extra return for a given level of risk
is the "risk premium" that is necessary in order to
induce investors to place their money in a riskier investment.

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e-mail: Tom Chester