Thursday, December 03, 2020

Is optionality overrated?


In my previews, I get a lot of questions on whether I teach options. Apparently, the number of advertisement bombardments from investment instructors has created this impression that you need derivatives to have a comfortable retirement. 

I don't teach options, I consider financial engineered products optional (pun alert!) in retirement planning. But I see a lot of value in understanding optionality in your life. A lot of educational qualifications may be better positioned as a call option on your human capital rather than straight-forward equity bet. 

The above image is reproduced from It discusses the spectrum by how much people value optionality in their lives and I agree with it whole-heartedly.

If you examine young undergraduates, there will always be two kinds of students. 

The first category of students knows what they want from a young age. They are aware of which degrees earn a good living and have slowly built up a profile to capture the upside from getting the qualification. When they get employed, they have a salary upside from A level qualifications as reflected by high salary over tuition fee of the qualification. That's a straight equity bet and degrees like engineering, accounting, law and medicine fall into this category.

The second category of students is less sure of themselves. They do not know what they want but they want to develop generalised skills like writing and critical thinking to be able to delay their decision making and react to industry changes upon graduation. These degrees behave more like options, they fall into the money when an industry is chosen. This is a call option and Arts, Science and Business degrees often fall closer into this spectrum ( although economics and finance degrees do not ). 

I don't want to discuss the relative value of general versus specialised degrees because this is easily resolved by googling POTS scoring within this blog. We can let the numbers and employment figures speak for themselves.  Fact is if you specialise in the wrong field, you may end up worse off than a generalist. Some computer engineers from NTU from my cohort is driving Grab today even though most PMET jobs out there have a technical component. Personally, I would not even hire them to polish up my Powerpoint slides.

If we position an educational qualification as something with real options embedded into them - then you have confront a few harsh realities out there regardless of how well humanities professors hawk their goods in success literature.

a) Buying options are not free, you have to pay a premium 

Options have a premium. The price of SMU Juris Doctor is high at $70,000. Way higher than an LLB for the same pay. Worse, the opportunity cost is closer to $500,000. I can't argue that my JD has embedded options at age 45, but I can argue that my JD is a wonderful mid-life crisis to have as it costs as much as a Maserati. 

Like me, some young people who study useless degrees and qualifications on their own savings will find their personal justifications on very shaky ground. This is worse if they are depleting their savings to do this.

b) Options may be out of the money

Some options may be out of the money. Suppose you specialise in Semiotics ( I have no fucking idea what that is, BTW).

I think having Humanity attain First contact with a superior alien race will boost the value of your qualification but, as it stands, you will have to review the salary scale and employment opportunities on qualification in Semiotics. Instead, your superior writing abilities and critical thinking skills are probably your best bet for now, the semiotics is just incidental to the development of value in your human capital. 

I've spoken about many private degree qualifications as being similar to Paper Thosai qualifications, that was too unduly harsh. 

Instead, I should reframe these qualifications as basically qualifications which out of the money - if you exercise this option, the difference from a diploma paycheck will not be too great to justify the expensive premiums you pay.

c) More Chaos can push Options into the money

Here's the best part of having optionality. Chaos rules and increases the value of embedded options.

If the economy goes into the shits and turns upside down or experiences 30 years of golden prosperity, your options can come into the money. 

Volatility increases the value of options! 

This brings the harshest truth about private and qualifications in a meritocratic and capitalistic society like Singapore. For chaos to ensue, the status quo cannot remain. Either we have rampant growth that pushes everyone to the stratosphere or have a societal collapse.

In such situations, the generalist will be able to overcome the specialist. The gap between a local and private degree holder will narrow.

And a lot of young punks I know have that kind of sentiment or desire - this is perfectly rational given the educational qualifications they have invested in. 

Finally, I really like the image shown above. The purest equity bet on human capital in Singapore is entrepreneurship. This is one specialised singular bet on the business that you are running. Meeting fellow founders in the SMU incubator, I am impressed and amazed at the level of risk-taking. 

I constantly feel a little inadequate on my own approach towards conducting business, which is to match cash flow with business expenses and expanding slowly. I don't even have an "ask" because I don't ever want to be in a position to give up equity. 

Clearly, I am a cockroach but these young businessmen have the potential to become unicorns. 



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