Under reading 14, practice question 2 and 3 (p424), textbook answer tells me to allocate a large portion into equity even 35 years old people’s HC is highly correlated with equity. However, under question 6, it suggests that “Young investors with equity-like human capital should be invested predominantly in fixed-income assets”. Thus it suggests to invest more into bond. Any thoughts?
Anyone?
Since you asked so nicely the second time around…
When Human Capital is risky and highly correlated with other risky assets (…think young stockbroker), you should initiall invest more in fixed income assets.
When Human Capital is risky buy has NO correlation with other risky assets (…think aspiring actor), you should initially invest more in equities and other risky assets.
Thank you. But if you read the practice questions, both people in question 2 and 6 has their HC correlated with equity. I am asking why the allocation is different?
let me explain few points. this section was my weak point last year so i made sure i get it this year.
your total weatlh is your human capital (pv of future income) and financial capital (your current $).
if:
1- you are young (that’s all your given) then your human capital is equity like (because you can actually take this at this point in time since your young) and as you grow old, your hc becomes like fixed income.
2- if your income is stable, (hc is certain), you invest in equities and as you grow old, you shift to fixed income.
3- if your income is uncertain and highly corrolated to equities, which means that your human capital is risky, so why risk your financial capital? invest early in rf and as the risk gets less (your hc), you move to equity.
4- if your income is uncertain and not corrolated to equities, you invest as if it is certain unless otherwise specified.
5- if your initial wealth is high, which means that your human capital is low with respect to total wealth since as i said wealth = human + financial … so here financial is high; therefore hc here is low, so you invest in risk free asset and you are conservative with less demand on insurance since hc is low already. however if initial wealth is low, then hc is high, then there is a high demand for insurance and you invest in equities early.
6- if there is a high corrolation with wage rate, inflation and equities, then your hc is risky, and you should invest in a conservative way. imagine you are doing a pv formula where corrolation affects the denominator, so if corrolation increases, i increases, thus the total value of hc decreases.
7- if bequest is important, then you should increase demand for life insurance.
8- if you are risk averse, then you increase your demand for insurance.
those are some points which might benefit you…
thanks
shouldn’t this be the other way around?
invest early in rf and as the risk gets less (your hc), you move to fixed income equity.
^^ exactly my bad thanks 
… i edited it. Im sure i did such stupid mistakes last year in the am session although i know its equity but when im typing or writing fast; i lose some of my concentration especially when im under pressure …
best of luck this year !