Thoughts onFinance

by Pirque

“No school can teach someone how to be a great investor. If it were true, it’d be the most popular school in the world, with an impossibly high tuition.”
– Michael Burry

Finance in its modern form really dates only from the 1950s. Academically, it is still not clear if it should be housed under the economics or the business school.

In 1994, some Wall Street folks thought they were “not just a fund. We’re a financial-technology company” because they applied some academic theories to build investment models. The fund was bailed out by the Fed four years later. Upon imminent collapse and a major destabilization of all of Wall Street. Billions of dollars in losses.

Finance is a very new field. Economist should ponder how the mathematization of physics was achieved in the seventeenth century. The breakthrough by Newton and others into mechanics came because of previous developments in astronomy. They were backed by several millennia of systematic, scientific, astronomical observation. Several argue economist should look for an alternative language, mathematics seems not to be the best option.

This does not render finance worthless. On the contrary, financial innovation is much welcome. As long as it passes the full scrutiny of the market.
But don’t forget that finance is about “making money when you have no idea how to create wealth”. Real value creation comes from business founders.
Below are some Nobel-laureate contributions.
Note: the market is not awed by reputation.

The Theory of Portfolio Selection

Harry Markowitz (1927 – alive)
Nobel Memorial Prize in Economic Sciences (1990)
“Portfolio Selection”
The Journal of Finance, Vol. 7, No. 1. (Mar., 1952), pp. 77-91
https://www.jstor.org/stable/2975974

Capital Asset Pricing Model

William Sharpe (1934 – alive)
Nobel Memorial Prize in Economic Sciences (1990)
“Capital Asset Prices: A Theory of Market Equilibrium under Conditions of Risk”
The Journal of Finance, Vol. 19, No. 3 (Sep., 1964), pp. 425-442
https://www.jstor.org/stable/2977928
“For every contrarian there must be a trend follower.” – William Sharpe

The Efficient Market Hypothesis

Eugene Fama (1939 – alive)
Nobel Memorial Prize in Economic Sciences (2013)
“The Behavior of Stock-Market Prices”
The Journal of Business, Vol. 38, No. 1 (Jan., 1965), pp. 34-105
https://www.jstor.org/stable/2350752

The Modigliani-Milller Propositions

Franco Modigliani (1918 – 2003)
Nobel Memorial Prize in Economic Sciences (1985)
Merton Miller (1923 – alive)
Nobel Memorial Prize in Economic Sciences (1990)
“The Cost of Capital, Corporation Finance and the Theory of Investment”
The American Economic Review, Vol. 48, No. 3 (Jun., 1958), pp. 261-297
https://www.jstor.org/stable/1809766
“Above-normal profits, wherever they are found, inevitably carry with them the seeds of their own decay.” – Merton Miller

Options

Robert Merton (1944 – alive)
Nobel Memorial Prize in Economic Sciences (1997)
“Theory of Rational Option Pricing”
The Bell Journal of Economics and Management Science, Vol. 4, No. 1 (Spring, 1973), pp. 141-183
https://www.jstor.org/stable/3003143

Myron Scholes (1941 – alive)
Nobel Memorial Prize in Economic Sciences (1997)
Fischer Black (1938 – 1995)
** the Nobel Prize is not given posthumously.
“The Pricing of Options and Corporate Liabilities”
Journal of Political Economy, Vol. 81, No. 3 (May – Jun., 1973), pp. 637-654
https://www.jstor.org/stable/1831029

The Human Factor

Robert Shiller (1946 – alive)
Nobel Memorial Prize in Economics (2013)
“Irrational Exuberance”
Princeton University Press, (Mar. 2000)
http://irrationalexuberance.com/