Downside risk and long term investing
Robert Engle, Nobel Laureate 2003
Finance is a field which investigates the question of which risks are worth taking and this is a particularly important issue for us to examine today. This question has been studied for many years and has already received several Nobel prizes. Markowitz (1952) and Sharpe (1964) and Tobin (1958) received Nobel awards in 1990 and 1981 for associating risk with the variance of financial returns. Black and Scholes (1972) and Merton (1973) received the prize in 1997 for option pricing which, again, recognizes that a key measure of risk is variance returns.In this paper I would like to address the question of why we refer to variance when typically we are only concerned about the downside.
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