Russ Roberts has a very interesting, very timely conversation with Robert Shiller on current conditions in financial markets. One segment gave me pause (literally; I listened to the segment again and paused it so I could write this post). According to Shiller, one of the root causes of the current unhappiness is the fact that people were encouraged to put their life savings in leveraged, real estate investments in single cities. Shiller's representative investor had a portfolio consisting of two assets:

1. San Francisco real estate (highly leveraged).
2. Social Security.

This illustrates, in Shiller's words, "failure to apply the basic principles of risk management." I'm an economist and Shannon is a CPA; we tell people that for all of our fancy education the most important thing we've learned is that markets are generally efficient--therefore, most attempts to earn above-normal returns over the long run are doomed to failure. Therefore, we maintain a balanced portfolio that is very heavy on stock market index funds and which we will re-balance toward bonds and cash as we get older. When people ask, I generally recommend targeted retirement funds that automatically rebalances toward less-risky assets as time goes by. I'm convinced that the social returns to greater basic financial literacy are enormous; to this end, I will be writing a few personal finance articles for Lifehack.org in the coming months.

From his vantage point in the Fisher-Price bouncy seat next to the desk, Jacob seems generally agitated, but he's nonplussed by today's news about Lehman Brothers, Merrill Lynch, and AIG. He carries a diversified portfolio of colorful outfits, picture books, stuffed animals, and things that make noise, but he's planning to move toward interesting shapes, stuff with interlocking parts, and foam rubber sports equipment over the next couple of years. We expect these to contribute to human capital development and provide the kinds of long-run returns he'll need to prosper in the twenty-first century.