Financial Planning: The Game Theory Component

Financial Planning: The Game Theory Component

Entropy – the degree of disorder or uncertainty within a system – can such chaos be an acceptable part of life – and are there prices and rewards for each level of acceptance?

Entropy’s existence long ago led to Game Theory, the study of mathematical models of conflict and cooperation between intelligent and rational decision makers. The concept is part of nearly every decision and therefore finds itself at the center of the business world. 

We must look at which variables are worth assuming, and what value to assign to each. As it’s arguably the greatest communicator of information around, let’s look at the stock market. 

First-time investors and the most reputed credit rating agencies alike must determine a relevant risk/reward ratio vis-à-vis the current risk-free rate. We know every decision has a lost opportunity cost, yet we don’t know what that’s worth.

Reward is the only way to financial independence; but what about risk? Creating foundational wealth before addressing protection and liquidity has nearly the same risk as skipping to maximizing growth.

Sticking with Game Theory, the investor must address one if its tenets – Zero-Sum Game – when one person’s gain must equal another’s loss, which creates a net-zero effect. True believers in Zero-Sum Game find universal growth to be the only path to a harmonic economy. Put another way, ships may go up and down with each swell, but all is fine as long as the tide is rising.

Anyone planning to deploy their income to further their wealth must actively seek to participate in such hopeful rises – and to do so as efficiently as possible, and with pure rationality. You can’t stop chaos, but you can try to contain it.

For more information, please read:
The Game Theory Inside Financial Planning | ThinkAdvisor

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