Sunday, 15 January 2012

Taking chances

I was a first-year student, when, during a class in basic microeconomics, I first encountered the topic of risk from economic perspective.

Have you even tried to put in words what actually risk is?

In economics and finance, one has to distinguish between risk and uncertainty. The former must be measurable, the latter is not quantifiable. If the risk is measurable, it should be possible to estimate probability that a specific scenario materialises. In life we usually face uncertainty – hardly ever it is possible to make an educated guess on how probable it is that a choice we are making will prove right.

Those who have even learnt business English should have come across several verbs that go together with the noun ‘risk’. You can: accept, analyse, avoid, estimate, hedge, manage, measure, minimise, mitigate, quantify, run, take, tolerate, understand a risk; share it and divide it. Something can carry or pose a risk, something can be put at risk. ‘Risk’ as a verb and adjective ‘risky’ might come in useful quite frequently.

Economic theory distinguishes between pure and speculative risk. In the case of the former you might lose, or not, but you cannot win. Pure risk can be transferred to another party, willing to take such risk, this happens when you buy an insurance policy. In the case of the latter there might be one more outcome – you might also win. Modern financial engineering has devised many tools used to manage risks, transfer them between entities and “reliably” quantify it. When misused, those tool can result in worldwide financial meltdowns…

Economists have come up with a concept that different people have different tolerance of risk. Some are eager to take it, some avoid it, some are indifferent to it. As scholars claim, most individuals prefer not to take risks and make do with certainty equivalents. Most of us would rather take out an insurance, pay a fixed premium and reduce our exposure to a specific risk, many people do not fancy investing their money on volatile stock exchange and put them into bank deposits, on which they can earn lower, but “safe” income.

But what determines an attitude to risk a specific person has? Genes? Upbringing? Entourage? Education and awareness? Experience gained in life? Job and challenges it poses?

Why in different realms of life people have a totally different tolerance of risk? Some people drive like lunatics and risk their and other people’s lives but would never put their savings on the stock exchange. Others are not afraid to run up debts in form of mortgage loans for decades, but avoid taking professional decisions that entail responsibility.

Does eagerness to take risks influence the job one should take up? What should be the profile of an employee who works, like me, in risk management? (Incidentally, I recently heard in the risk division there’s no place for people with below-average IQ!) Surely they should have competence to assess and analyse risk, but how about the tolerance of various types of risks their employer would be exposed to, depending on their decisions? Of course, they are paid for taking care of someone else’s business, so private preferences should not matter at all. Once I triggered peals of laughter at work when I commented on potential highly speculative financing for a junk public company: “I wouldn’t put the bank’s money at such risk as my own”.

Financial institutions have their risk managers (who should be well paid ;-)), but human beings should be able to cope with uncertainty in everyday lives. Almost every time we take an important decision, the outcome is a mystery. Choice of path of education – whether you choose the right studies might impinge on your future self-fulfilment. Choice of a spouse – will influence your happiness. Both aforementioned decisions will also affect your financial standing, as well as the choice of career path.

Such decisions surely involve a bit of stress, as each even-tempered person should think twice, weigh in pros and cons, analyse what can go wrong. This can result in paralysis by analysis, but done prudently might help avoid mistakes, which in life are inescapable anyway. When choosing to study at SGH, I was not sure if this would be good for many; with time fortuitous decision proved right. When I got an internship in credit risk department I was not sure whether I would find my way there, but soon settled down very quickly and well there. Again a leap into the dark proved a good decision. I feel when one day I’ll pop the question I will have doubts whether this woman would really be the one I want to spend the rest of my day with.

It is probably the saddest point of this post. These days nothing lasts forever, promises are broken easily and without remorse. Is my observation, that people no longer hold stability as dear as they used to in the past, right? I recently witnessed a marriage breaking up just because one of the spouses found a few years younger, sexually attractive partner. After a few months the new couple have shaken off the short-lived affection and came to a conclusion that together they cannot face everyday hardships and actually they do not fit each other. Guess how one of the spouses, who left the family for a fleeting adventure, the other, cheated-on spouse and their children felt… Now they are back a family and are trying to pick up the pieces of the broken-up marriage and start a new life. But I know how the ex-lover of the spouse feels and oddly enough that person currently appears to be the most hurt, deceived and disillusioned.

For sake of clarity, I do mention the sex of the unfaithful spouse, just not to spread stereotypes – both women and men cheat on their partners… Also for the sake of clarity I am not the aggrieved hero of the story. But there were times when I found flirting with older (in their 20s and 30s) women in relationships exciting (then I have grown out of this silly sort of entertainment). But except for realising those were childish games it occurred to me that if a woman dumps her boyfriend for me, one day she might be capable of doing the same with me for another guy.

There is not just the fear that someone might hurt me, what worries me is that I may inadvertently break a promise given to someone. One day my common sense might tell me to take a path which will give me some stability, but will not be the most preferable, but some time later I might feel the temptation to try my foregone luck. Life is full of wasted chances, but is it worth taking a chance, heedless of consequences?

And you can speak about any risk here? Only uncertainty is left…


Pan Steeva said...


I think you fail to recognise that risks are often not recognised or viewed as a positive experience eg Polish driving.

If uncertainty is unquantifiable (ie unpredictable) is their any reason why humans shouldn't just ignore them rather than think twice?

Is there any point in not taking a chance in one's private life when there is either risk (by definition not certain, even if quantifiably predictable) or simple unknown uncertainty. Can you ever have absolute certainty?

I wonder if you will look back on your comment about 'childish games' in a few years time with some embarrassment. That's serious risk assessment. Aren't you being simply risk averse? (Please ignore the personal nature of this, I just wanted to use the phrase 'risk averse'.)

student SGH said...

Oh, one thing is attitude towards risk, the other is perception of risk. Daredevils are usually admired and few say such people are out of their heads.

Unquantifiable is not the same as unpredictable. You can foresee a situation but you can't estimate the odds of it happening.

In life there's no absolute certainty, if it seems to you there is, life is deluding you. Thinking you can be sure of something is falling in a trap.

Even now I feel a bit embarassed when I recall these 'childish games', but I could have got your last paragraph wrong. Could you elaborate on it?

Pan Steeva said...

Sex is often for fun at any age. An affair with a married person limits the risk of a life committing entanglement (if you don't want one), whilst having the risk of getting your head kicked in (or loosing your own life partner) if you're found out. Some people find this fun.

student SGH said...

Well, risk itself for many is fun...

Well, sometimes you don't plan an emotional commitment and as a relationship develops, it doesn't turn out to go according to your plans.

Funnily enough, it occured to me that limitng exposure to one risk often means increasing exposure to another one...

judelaw said...

wow i hate people being so cynical. and that patronizing tone. i do hope he's got strong morals and will never feel embarrassed about that 'childish games' comment.