“Long term results”
Gordon Brown says he wants to “put an end to the premium in the short term, the culture, building long-term rewards.”
However, even long-term results are far from being a true test of competence in financial markets. Take three examples.
1) Under the risk pricing of the tail. Imagine you have a property that pays acceptable and good times, with little chance of being exterminated. This could be a serious risk of bank loans, bonds or at risk of default, options or insurance or writing.
Imagine this country of 5% of assets in good times, but it has a chance to lose 20 to 95%.
This asset is cheap because it has a value of zero: (0.95 x 5) + (0.05 x -95) = 0. No risk and the person is maintained. But there is a 60% chance of paying more than 10 years, and 46% chance to pay more than 15.
Moderate chance we finance “long-term results” – although it is an idiot.
2) The misallocation of assets. Imagine a choice of two – an insurance pay 3% per year, and a risk with an expected return of zero, but the standard deviation of 25% per year. Again, only a fool would choose the risk of assets, unless the risk tolerance. But there is a 33% chance he has conducted over 10 years.
3) The bad stock picker. Say a fund manager has the ability negative – over the long term in the benchmark, the performance of its more than 2 percentage points per year. But the fund has a tracking error of 10% per year.
More than 10 years, has a 28.1% chance of actually hitting the benchmark.
These three examples show that, for a maximum period of 10 years, there are good chances of obtaining an idiot “in the long term.” This is because the financial markets, the SNR is high. Judging by the donors to long-term results, “long term must be very long – perhaps long infeasibly.
Now, anyone with a vague knowledge of financial markets know it. So why does Mr Brown seems to assume that the long term would be a good test of their ability?
A possible answer is he thinks that we live in a deterministic world in which leaders, experts and administrators can give reliable results.
But no one so stupid, huh?
[Source]
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