I begin by describing the first analytic model of risk, from the work of two Bernoulli cousins and their attempts to understand games of chance. First, I describe how the applied mathematicians of the nineteenth century began to measure and incorporate uncertainty into mathematics, and how a mathematician named Louis Bachelier used these measures to price risk. I then turn to the originator of the modern definition of risk, and father of the Chicago School, Frank Hyneman Knight. Afterwards, I treat the economics pioneer Jacob Marschak. Followed by a description of how his description of the risk-return tradeoff inspired his graduate student, Harry Markowitz, to expand Marschak’s definition of the risk-return tradeoff into Modern Portfolio Theory. Next, I show how William Sharpe and his contemporaries evolved Markowitz’ Modern Portfolio Theory into a technique to 'price' individual securities of uncertain returns.
I then demonstrate how Fischer Black and Myron Scholes reinvented Bachelier’s work in the development of the most common method to price risk and volatility in derivatives markets, through the Black-Scholes options pricing model. I conclude by assessing the current state of our understanding in financial risk management.