
Everything can be thought of in terms of expected value (EV). Expected value, also called estimated return on investment (ROI), is the sum total of everything you would expect to get from something that you do or buy. This may be a combination of time, money, health, relationships, future earning potential, and many other factors.
Be sure to include some often missed parts of EV, including opportunity costs and maintenance costs. If you expect a stock to go up, then you can assess the stock as having a positive EV, and vice versa for stocks that you think will not do well — stocks that you would want to short sell.
EV applies outside of finance as well: for example, to maximize real life EV, we should minimize things that not bring value, such as watching Netflix. Even in this case, however, there are caveats. For example, the EV of happiness or educational value from watching some Netflix programs should be factored into the final equation. Not everything is so cut and dry.
Let’s take a couple of case studies:
- College: College has positive EV for most majors, especially STEM (Science, Technology, Engineering, and Mathematics) and pre-professional majors.
- Grad School: Once again, most STEM and some professional grad schools have positive EVs. Not so much for liberal arts majors (but with enough confidence, charisma, and connections, you can still do well).
- Insurance: By protecting your largest assets, such as your house, car, health, and ability to earn (with disability to insurance), you are protecting against the bulk of the risk in your life. This is what bankers can minimizing downside. Generally, outside of a few underhanded life insurance policies, most major, comprehensive insurance categories have positive EVs.
Let’s take a case where you double your salary when you move from a smaller city such as Raleigh, NC to NYC and lose 30 hours per week of leisure time. Is this worth it in terms of EV? Well, that depends on how much you value your free time, as well as the opportunity cost of what that free time would generate value with other means. If the total cost of the additional salary, benefits, and career growth that you gain from switching jobs is greater than the amount that you value your free time plus your earning ability during the free time, then the career move has a positive EV.
It’s not all black and white, as you can probably tell. It’s a continuous learning process, and sometimes experience is the only way to tell if something has positive EV. One way to bypass experience is to observe and reflect from other peoples’ successes and failures and learn from them. That’s why I like websites like reddit so much.
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