Wednesday, May 24, 2006

The Finance Wonk Reading List


This is a list of some financial books I've benefited from and think are worth reading. I will try to give a useful description of what makes each one useful and how it reads. I've put in links to buy the books and yes, full disclosure, I do get a credit from Amazon if you purchase through the links. If you aren't comfortable with that go ahead and search the book yourself from the Amazon home page. Please send me feedback, comments, and other book ideas - email link.

A Random Walk Down Wall Street:
The investing classic for people who treasure an ability to see clearly. Burton Malkiel did an amazing job years ago of putting together a firmly argued criticism of conventional thinking and the mutual fund industry and uses a wide variety of well documented sources to demonstrate the usefulness of index funds. He teaches the reader about the impact of randomness on the market and some of the studies that have established certain elements of the "conventional wisdom" to be wrong. This book is clearly and enjoyably written and highly educational. It has been updated over the years and if you haven't read it in a decade or so (as I hadn't recently) it's worth reviewing one of the newer editions. If you think this is an effusive review you're right. I am generally pretty harsh on investing books but if you're only going to read one book on investing this should be that book.


One Up on Wall Street:

This is a book by Peter Lynch, the legendary manager of the Fidelity Magellan fund, the best performing mutual fund from 1977 to 1990. If you read "A Random Walk Down Wall Street" (above) it will occur to you that someone has to have the best performing mutual fund, so this doesn't necessarily prove anything about his prowess (although I'm not saying he isn't good). One thing that is sure is that Peter Lynch used his star investor status to write a lot of books. All of them are squarely aimed at the do-it-yourself investor and are written in an easy to read flowing style that will help anyone finish the book. This is one of the core books and if you read this one you've pretty much read them all. This book does contain a number of useful educational sections although it is very general in nature. A good book for light reading and a good starter book if you aren't sure about investing for yourself yet. Give this book as a gift to that aunt who wants to start taking care of her own money and you can't go wrong. If she likes it and asks smart questions, go with "Random Walk" above and bring her here to join the discussions!

Valuation:

An excellent guidebook on ways of arriving at a valuation for a company. This book is a much easier read than some financial books but still has some good math. It makes ample use of big block diagrams and simple cartoons to explain concepts. Addresses the point of view of the investor and the point of view of a corporate acquirer. I actually laughed at the section on how companies value other companies for mergers and acquisitions: they have a spiral showing the process that frequently leads to mergers that reduce value, this graphic should be posted in every boardroom in America!

The Conservative Investor's Guide to Trading Options:

I bet many people think that title is an oxymoron. While options can be used in risky ways (and are primarily known for that) there are actually a number of strategies where the downside is fixed and knowable. I regularly engage in many of these practices myself and can attest to their effectiveness. It's fun (at least for those with the financial wonkyness gene) to locate a place in the market where people are being silly and make a few grand with a safe option strategy. This book is very nice because it doesn't just have theory but also gets into considerations of trading commissions and the specifics of how to place your orders such that you don't get stuck with half a position, your online broker will know what a "net purchase" is, even if it isn't an option on the web page.



Principles of Financial Engineering:
This is a rather dense and mathematical book, probably more of a reference book than a page-turner. Working through the first chapter (which doesn't have much math) with a pencil and some scratch paper is a very useful experience. Most home readers will not have much use for the sections on forward contracts and swap engineering or the repo market, but the chapters on options and engineering positions with options are very useful to even the most experienced option trader. If you're going to trade options in any sort of rigorous way you should have this book on hand. If you want to learn about the delta hedging I've mentioned before, this is the book.


When Genius Failed:

Not exactly an investing book, this nonfiction dramatic retelling is an inside look at one of the first "star" hedge funds and how it imploded. It's the story of Long Term Capital Management, which was founded in 1993 with a legendary bond trader and two Nobel Prize winners as core partners. It's a story of how over-reliance on a mathematical model led to spectacular returns and then an implosion so big the US Treasury got involved due to concerns the hedge fund would melt down the world markets. The author gets extra marks from me for digging into a description of what the trading strategy was and including several full page data plots. Fun reading for an airplane, no scratch paper needed.

Against the Gods:

The rather odd title on this book is a reference to the belief in ancient times that trying to control ones fate was an act "against the gods". This book is similar in philosophy to the top book here "A Random Walk Down Wall Street" but this book starts with a broad historical review of the way that people once believed that fickle gods ruled success in every endeavor and from there builds through the history of statistics and the birth of the idea of risk management. By the midpoint of the book the discussion is focused on University Economists and the birth of the portfolio management concept. By the end of the book the discussion has reached the cutting edge of non-rational behavioral theory and various advanced approaches to market analysis. This book is not for everyone and doesn't quite live up to its audacious title, but it is certainly interesting and will be valued by those who don't mind a dense read. I disagree with some of the finer points the book mentions, but most of them seem to be minor points the author isn't delving into very deeply anyway.

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