This doesn’t matter. Whether you should be risk averse doesn’t depend on how much risk there is, whether you should be risk averse depends on whether your pay-offs suffer diminishing returns, it is a mathematical equivalence (if your pay-offs have accelerating returns, you should be risk-seeking).
I think you don’t understand risk aversion. Consider a simple toy problem, investment A has a 90% chance of doubling your money and a 10% chance of losing all of it, investment A has a 90% chance of multiplying your money by one half and a 10% chance of losing all of it. Suppose you have $100,00, enough for a comfortable lifestyle. If you invest it all in A, you have a 90% chance of a much more comfortable lifestyle, but a 10% chance of being out on the street, which is pretty bad. Investing equal amounts in both reduces your average welath from $180,000 to $157,500, but increases your chance of having enough money to live from 90% to 99%, which is more important.
If they are instead charities, and we substitute $1,000 return for 1 life saved, then diversifying just reduces the number of people you save, it also increases your chance of saving someone, but this doesn’t really matter compared to saving more people in the average case.
Look at it this way, in personal wealth, the difference between some money and no money is huge, the difference between some money and twice as much money is vastly less significant. In charity, the difference between some lives saved and twice as many lives saved is exactly as significant as the difference between some lives saved and no lives saved.
I’m not explaining this very well, because I’m a crap explainer, here’s the relevant wikipedia page
In charity, the difference between some lives saved and twice as many lives saved is exactly as significant as the difference between some lives saved and no lives saved.
Note that even those wealthy guys who are not in danger of living on the street, diversify, lest they lose a large chunk of their investment. Similarly, if you assign a large disutility to non-optimal charity, your utility losses from a failed one will not be in any way compensated by your other charities performing well. Again, the situation in politics, which is the real question (charity is just an unfortunate analogy), the stakes are even higher, so picking an extreme position is even less justified.
Again, the situation in politics, which is the real question (charity is just an unfortunate analogy), the stakes are even higher, so picking an extreme position is even less justified.
I’m not talking about the politics case, there are other problems with Cousin It’s argument. I’m arguing with your ‘refutation’ of the non-diversifying principle.
Note that even those wealthy guys who are not in danger of living on the street, diversify, lest they lose a large chunk of their investment.
They may not be in danger of homelessness, but there is still diminishing returns. The difference between $1m and $2m is more important than the difference between $2m and $3m. Notice the operative word ‘large’ in your sentence. If those guys were just betting for amounts on the scale of $10, sufficiently small that the curve becomes basically linear, then they wouldn’t diversify (if they were smart).
The situation with charity is somewhat similar, your donation is as small on the scale of the whole problem being fixed, and the whole amount being donated, as $10 is for a rich investment banker. The diminshing returns that exist do not have any effect on the scale of individuals.
Politics, if you insist on talking about it, is the same. Your personal influence has no effect on the marginal utilities, it is far too small.
Similarly, if you assign a large disutility to non-optimal charity, your utility losses from a failed one will not be in any way compensated by your other charities performing well.
Yes, if you donate to make yourself feel good (as opposed to helping people) and having all your money go to waste makes you feel exceptionally bad, then you should diversify. If you donate to help people, then you shouldn’t assign an exceptionally large disutility to non-optimal-charity, you should assign utility precisely proportional to the number of lives you can save.
This doesn’t matter. Whether you should be risk averse doesn’t depend on how much risk there is, whether you should be risk averse depends on whether your pay-offs suffer diminishing returns, it is a mathematical equivalence (if your pay-offs have accelerating returns, you should be risk-seeking).
I think you don’t understand risk aversion. Consider a simple toy problem, investment A has a 90% chance of doubling your money and a 10% chance of losing all of it, investment A has a 90% chance of multiplying your money by one half and a 10% chance of losing all of it. Suppose you have $100,00, enough for a comfortable lifestyle. If you invest it all in A, you have a 90% chance of a much more comfortable lifestyle, but a 10% chance of being out on the street, which is pretty bad. Investing equal amounts in both reduces your average welath from $180,000 to $157,500, but increases your chance of having enough money to live from 90% to 99%, which is more important.
If they are instead charities, and we substitute $1,000 return for 1 life saved, then diversifying just reduces the number of people you save, it also increases your chance of saving someone, but this doesn’t really matter compared to saving more people in the average case.
Look at it this way, in personal wealth, the difference between some money and no money is huge, the difference between some money and twice as much money is vastly less significant. In charity, the difference between some lives saved and twice as many lives saved is exactly as significant as the difference between some lives saved and no lives saved.
I’m not explaining this very well, because I’m a crap explainer, here’s the relevant wikipedia page
Note that even those wealthy guys who are not in danger of living on the street, diversify, lest they lose a large chunk of their investment. Similarly, if you assign a large disutility to non-optimal charity, your utility losses from a failed one will not be in any way compensated by your other charities performing well. Again, the situation in politics, which is the real question (charity is just an unfortunate analogy), the stakes are even higher, so picking an extreme position is even less justified.
I’m not talking about the politics case, there are other problems with Cousin It’s argument. I’m arguing with your ‘refutation’ of the non-diversifying principle.
They may not be in danger of homelessness, but there is still diminishing returns. The difference between $1m and $2m is more important than the difference between $2m and $3m. Notice the operative word ‘large’ in your sentence. If those guys were just betting for amounts on the scale of $10, sufficiently small that the curve becomes basically linear, then they wouldn’t diversify (if they were smart).
The situation with charity is somewhat similar, your donation is as small on the scale of the whole problem being fixed, and the whole amount being donated, as $10 is for a rich investment banker. The diminshing returns that exist do not have any effect on the scale of individuals.
Politics, if you insist on talking about it, is the same. Your personal influence has no effect on the marginal utilities, it is far too small.
Yes, if you donate to make yourself feel good (as opposed to helping people) and having all your money go to waste makes you feel exceptionally bad, then you should diversify. If you donate to help people, then you shouldn’t assign an exceptionally large disutility to non-optimal-charity, you should assign utility precisely proportional to the number of lives you can save.