When I say “risk” and you say “risk,” chances are high we don’t mean the same thing.
The finance industry defines risk as something measurable. It is variability within a set of known limits. You may have heard it referred to as standard deviation or even volatility. Ultimately, it represents how much an investment wiggles over time.
I’m an adviser who talks to humans. I also happen to be human. From my experience, I know humans outside the financial world define risk differently. In everyday life, we tend to think of risk as uncertainty, or what is left over after we have thought of everything else.
With uncertainty comes variability within a set of unknown limits. It’s the stuff that comes out of left field, like Nassim Nicholas Taleb’s black swan events. Because we can’t measure uncertainty with any sort of accuracy, we think of risk as something outside our control. We often connect it to things like running out of money in retirement or ending up in a car crash.
But how did we end up with two such completely different definitions of the same thing? My research points to an economist named Frank Knight and his book “Risk, Uncertainty and Profit.”
If I do not take it will take from me.
Robert J. Shiller