Risk and Return
Risk and return. They are fellow travelers, but they couldn’t be more different.
Return is easy to measure. It’s a number. It happened. We can all agree on it.
Measuring risk is hard. It’s a concept. It has no precise definition.
It looks different to different people on different days in different situations.
Our brains are programmed to avoid it but can find no refuge from it.
It’s like the wind and rain. Part of life.
Our perception of risk and our experiencing of it change over time.
What we saw as risky last year might not seem risky this year. Or it might seem riskier.
We throw around terms like “risk tolerance” and “risk capacity” as if we can slice and dice risk into neat component parts like a chicken—here’s the wing, here’s the breast, here’s the gizzard.
We try to capture it with concepts like volatility, downside risk, and sequence of return risk. But it eludes us. It is none of these things but embraces all of them.
I feel for my friends at Andes Wealth, Fabric Risk, Capital Preferences, and Nitrogen whose mission is to wrestle risk to the ground, dissect it, and make it understandable.
They have an almost impossible task.
Hard as it is to measure and describe, risk is real. It resides in the blackhole of uncertainty and haunts our futures. Everyone carries with them a lifetime supply of it.
It is one of the most important topics financial advisors can discuss with their clients.
How a client perceives and deals with risk is perhaps the most important determinant of whether they will be a successful investor.
An advisor must understand risk as seen through the client’s eyes and help shape the client’s reactions to it over time.
Use whatever tools you will to assess the multi-dimensional aspects of a client’s risk profile. But realize that the output of those tools only marks the starting point for a deeper conversation.
A conversation that is never over.