Standard portfolio management theory explicitly states that the
investment horizon is irrelevant. Both long-term and short-term magpies
choose the same bundle of assets and, therefore, the same profile of
risk and return. As John Campbell and Luis Viceira point in their
"Strategic Asset Allocation", published this year by Oxford University
Press, the model ignores future income from work which tends to dwindle
with age. Another way to look at it is that income from labor is
assumed to be constant - forever!
To avoid being regarded as utterly inane, economists weigh time. The
present and near future are given a greater weight than the far future.
But the decrease in weight is a straight function of duration. This
uniform decline in weight leads to conundrums. "The Economist" - based
on the introduction to the anthology "Discounting and Intergenerational
Equity", published by the Resources for the Future think tank -
describes one such predicament:
"Suppose a long-term discount rate of 7 percent (after inflation) is
used, as it typically is in cost-benefit analysis. Suppose also that
the project's benefits arrive 200 years from now, rather than in 30
years or less.
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