Understanding Risk is key to successful investing.
Howard Marks has done a phenomenal job at explaining what risk actually is.
Spoiler: It's not Volatility!
I believe every investor should hear Marks' ideas on risk:
Howard Marks has done a phenomenal job at explaining what risk actually is.
Spoiler: It's not Volatility!
I believe every investor should hear Marks' ideas on risk:
1. The Academic Definition
In academia and large parts of finance, risk equals volatility.
Volatility measures the range of price fluctuations over a period of time.
The investing goats do not think that this is how investors should think about risk.
In academia and large parts of finance, risk equals volatility.
Volatility measures the range of price fluctuations over a period of time.
The investing goats do not think that this is how investors should think about risk.
2. How the Goats Think about Risk
So if volatility isn't risk, what is?
Risk is the probability of a permanent loss of capital!
That's the definition you should focus on.
Now we need to figure out how to think of the probability of such permanent loss.
So if volatility isn't risk, what is?
Risk is the probability of a permanent loss of capital!
That's the definition you should focus on.
Now we need to figure out how to think of the probability of such permanent loss.
3. Understanding Uncertainty
We can think about the future as a probability distribution, and we never know which outcome will occur.
We wouldn’t even know if we knew all possible outcomes and their exact probabilities.
The most unlikely things happen all the time.
We can think about the future as a probability distribution, and we never know which outcome will occur.
We wouldn’t even know if we knew all possible outcomes and their exact probabilities.
The most unlikely things happen all the time.
4. The Relationship between Risk and Return
We get taught that there's a positive relationship between risk and return.
Take more risk, and your expected return will be higher.
This is a theoretical concept that only makes sense using volatility as risk.
We get taught that there's a positive relationship between risk and return.
Take more risk, and your expected return will be higher.
This is a theoretical concept that only makes sense using volatility as risk.
Let's upgrade the graph so that the uncertainty of outcomes and the risk of losing money becomes more apparent.
The bell-shaped curves in this graph represent the uncertainty of outcomes.
The riskier, the higher the uncertainty and potential for loss.
The bell-shaped curves in this graph represent the uncertainty of outcomes.
The riskier, the higher the uncertainty and potential for loss.
5. How to Handle Risk
1. Downside Focus:
Prioritize the downside of every investment. With limited downside, the upside will take care of itself.
2. Understand Risk:
Sounds obvious, but understanding risk, which you do now, automatically helps to avoid it.
1. Downside Focus:
Prioritize the downside of every investment. With limited downside, the upside will take care of itself.
2. Understand Risk:
Sounds obvious, but understanding risk, which you do now, automatically helps to avoid it.
Marks wrote about this in his Memos and Books, I highly recommend reading them!
You can find his books among my Book Recommendations here:
danielmnke.com
An archive with all his Memos is on Oaktree's Website:
oaktreecapital.com
You can find his books among my Book Recommendations here:
danielmnke.com
An archive with all his Memos is on Oaktree's Website:
oaktreecapital.com
That's it for today!
If you enjoyed it, please Like and Retweet this Thread so more people can see it!
Follow me @MnkeDaniel to learn more about Investing.
Have a great day!
If you enjoyed it, please Like and Retweet this Thread so more people can see it!
Follow me @MnkeDaniel to learn more about Investing.
Have a great day!
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