Observing word and action of some noted investors in the world… they seem to miss this. And… those that have gone on… nobody has ever come back from the grave to say different.
In an all-stakes poker game with everybody all in—and the “pot” on the table is… our soul—would we rather be the famous six-time world champion poker player holding a pair of deuces… or the local amateur holding a royal flush… Unnaturally Cheap, p.47
From a business/investment perspective…
Get familiar with risk.
Everyone likes to talk about returns; but risk is of equal importance.
Risk is tricky. It’s always in the background and underneath the surface, lurking and waiting. Ignore it and you’ll probably be fine – until you’re not. And when that happens, watch out, you’re likely in a world of trouble. Embrace risk mitigation and your upside will necessarily suffer. Eliminate risk and you will get between almost nothing and literally nothing.
Risk is not uncertainty. It is not volatility. At its core, risk is the likelihood and magnitude of permanent loss. It is the probability of a collision between a detrimental event and a lack of planning, resulting in a permanently negative outcome of some potential size.
While returns are easy to measure, risk is elusive. Economists and financial gurus constantly attempt to quantify it, but its estimation is more art than science. If you took a piece of real estate and asked 100 investors to gauge the risk of owning it, you might get many of the same risk-related topics, but few, if any, would agree on a precise score. Risk represents a rough approximation because the permutation of each actor’s circumstances are indefinite and constantly changing. Plus, each participant’s actions influence the system’s outcomes. What is high-risk to one, may be de-risked to another.
The path to managing risk is to understand yourself, your situation, and the controlling factors that might lead to negative outcomes. The goal is to operate responsibly, allowing for enough risk to gain rewards, while not playing financial Russian Roulette. Think Goldilocks. Not too hot, yet not too cold either. But only you know the appropriate temperature.
The less risk equity investors feel, the more they’re willing to bid up assets and as long as everything is up-and-up, the game continues. Risk taking in good times leads to outsized returns. But assumption of risk alone won’t drive long-term gains. It results in an opacity between being lucky and being good, or what Nassim Taleb would call “lucky idiot” syndrome. Every bull market produces a class of lucky idiots who won (temporarily) for all the wrong reasons.
Elevated valuations, aggressive transactions, and a general feeling of financial FOMO (fear of missing out) should give you pause, lead you to take inventory, and provoke a plan for the future. Cycles happen and the good times don’t always roll. So when the music stops, or gets inaudibly quiet, how quickly and easily can you find your seat?
The most glaring source of risk I see time-and-again for businesses of all shapes and sizes is financial.
- How do you monitor and maintain cash flow?
- How have you structured equity and debt?
- What are the likely outcomes from growth or shrinkage?
Risk doesn’t only manifest in bad times. Loading a company with debt, maintaining small cash reserves, and not closely monitoring the results from the business’s trajectory can all prove disastrous.
Only the Lord Jesus Christ has overcome the world and the grave. Here’s His declaration of truth about how we can also… or not…
From the eternal perspective… Mark 8:35-37; Luke 21:35-36; 1 Thessalonians 5:2-4; Matthew 24:23-25; Psalm 112.
133 Establish my footsteps in thy word; And let not any iniquity have dominion over me. (ASV) Psalm 119