3 of 3 people found the following review helpful
risk explained for poets and gear heads,
This review is from: Against the Gods: The Remarkable Story of Risk (Paperback)
This is a history of the notion of risk, which is written to please both math jocks (gearheads) and poets (their opposites). As a financial advisor, Bernstein knows all about the former, which he can explain in layman terms to the latter. The result is a truly brilliant book.
According to Bernstein, our notion of risk occured in 3 stages. It began in the 16th C, when Renaissance mathematicians turned their attention to Earth, a major departure from the preoccupations of philosophers since antiquity, who studied the motions of the planetary bodies as the only measurable regularities in nature. The new guys studied dice and other games of chance as well as bookkeeping and the insurance industry (i.e. useful to the rising bourgoisie). This represented a revolution in our notion of fate, he says, as the future was regarded more as something human beings could master and manipulate regardless of their birth station, etc.
FOr the next 200 years, Bernstein reports, mathematicians attempted to measure, with rapidly evolving tools (physical and conceptual), what they believed could be "known" with certainty. Pascal and Fermat formulated the general rules for the calculation of probabilities, which was the first real step in the science of risk management, that is, recognising that math rules could guide decisions about the future. Bernstein argues that this signalled the birth of the modern era, in which rational planning replaced mystics and numerologists.
This was the golden age of classical statistics. First, researchers examined what could be inferred of the whole from a limited number of observations (statistical inference, as in vote sampling today). Then, they turned their gaze to uncertainty, which they might estimate. This resulted in Bayes' theorem, which incorporates intuition into the equasion. THe bell curve was also discovered.
I found Bernstein's third stage the most interesting, i.e. post-WWI. This was a time when the confidence in Western rationalism came into question, not only whether we operate logically but if we even come to the right conclusions when armed with the "required" information. At this time, the science of risk breaks into a number of competing schools, whose arguments are mutually exclusive, including game theory.
FInally, Bernstein offers up some surprisingly skeptical financial advice. Investment professionals, we learn, rarely do consistently better than random choices (!) and if they develop a system that works, it will quickly become obsolete because others will copy it.
This book is an extremely useful review of the complicated, sometimes arcane techniques that many of us sweated through during late nights a grad student toil. I hated every minute of it, but in Bernstein's hands it is indeed facsinating and written with a remarkable clarity. Berstein makes a lively case for the judicious use of this risk-analysis techniques - we should take them into account even if we fail to follow them rationally. His book is a useful primer for investor caution, i.e. quantitative techniques are useful but should be questioned continually. There are also innumerable fascinating asides, in which personal details of the mathematicians are examined with humor and psychological depth.