Howard Marks released a new memo (PDF) this week on risk. It’s a revised and updated version of a memo he wrote last year. Being that the topic is risk, it’s worth a read. I thought I’d highlight a piece of it.
One thing people are not good at managing, especially around investing, is risk. And that’s an understatement. People are generally terrible at it.
One of the reasons investor confidence was hit so hard [in 2007] is simply that it was too high (as is required for unsustainable market highs to be reached). And much of investors’ excessive comfort was in the area of risk, where it was roundly believed things were under control. But the truth is, it’s hard to manage risk.
Humans have an uncanny ability to drop their guard after things have been good for awhile.
The typical reaction goes like this: Worry, worry, worry, worry, worry…wait, things aren’t so bad…it’s okay even…better than okay…I can’t lose…Oh Crap! Worry, worry…
Simply, when things go great for a while investors tend to forget things can get worse and when things are terrible, they forget things can get better. It cycles from all they see is risk to not seeing any risk.
Buffett said something similar in the 2012 annual letter:
sometimes people focus on the myriad of uncertainties that always exist while at other times they ignore them (usually because the recent past has been uneventful)
Risk is highest when everyone believes they can’t lose. Risk is lowest when everyone believes they can’t win. Generally speaking, risk is inversely related to the level of confidence in the markets. And being blind to that concept is a big risk.
- What Good is History? – M. Housel
- Control or Resilience – Seth Godin
- The Bond Crash: Is This It? – Monevator
- Your Portfolio may be Basking in the Sun, But, as Always, Winter is Coming – B. Ritholtz
- Mother Nature Designed You to be a Bad Investor – J. O’Shaughnessy
- The Intelligent Investor: Five Key Takeaways – Euclidean
- Jack Bogle’s Great Insight: The Quiet Virtue of Relative Predictability – Morningstar
- Bill Bernstein: Beware The Currency Hedge – ETF.com
- The Market for “Lemons”: A Lesson for Dividend Investors – Research Affiliates
- Crisis Chronicles: Railway Mania, the Hungry Forties, and the Commercial Crisis of 1847 – Liberty Street