Blogs & Comment

Why investment bankers need bonds

Why shouldinvestment bankers have mostly bonds in their portfolios? An answer is provided in Chapter 8 of Professor Moshe Milevskys new book, Your Money Milestones: A Guide to Making the 9 Most Important Financial Decisions of Your Life( reference here). The chapteralso explains why:

  • wealthy barbers should have high allocations to stocks
  • MBA students should short the stock market
  • civil servants, professors, and teachers should have mostly stocks, even allocations as high as 200% (i.e. leveraged)

These recommended asset allocations follow from the professors notion that ones financial portfolio should not be diversified in isolation from non-financial assets, particularly human capital (= present value of the stream of income expected from training, experience and talents).
People whose human capital is sensitive to the economy will be like a stock and people whose human capital is not sensitive to the economy will be like a bond. Persons who are stock-like (investment bankers) increase risk by having a high allocation to stocks whereas persons who are bond-like (civil servants, professors, and teachers) can afford to take on more risk (indeed, should take on more risk to properly diversify their holistic balance sheet).
The other dimension to consider in regards human capital is flexibility. People who have more freedom to adjust their working hours are in more of a position to hedge risk in their financial portfolios by increasing their work effort and labor income. So the barber should especially load up on stocks. They not only provide a service in demand whether times are good or bad, but they have considerable latitude to adjust their working hours in case stocks crater and there is a shortfall to make up.
As for MBA students, especially those aiming to work on Bay or Wall Street, shorting the stock market hedges the risk that by the time they graduate, the economy and the stock market will have turned down and jobs are scarce.