Finance 101 – Risk vs Uncertainty
A simple yet important distinction for investors to make is the difference between risk and uncertainty. Risk is where there are a known number of outcomes that may occur in the future, and we can try to assign probabilities to make an estimated guess. Uncertainty is where we don’t know what may happen in the future, making it difficult to make predictions about the future. If you bet $100,000 on the roulette table, you are dealing with risk but not uncertainty. You are risking that the number the ball lands on is different to the one you wagered on, but you know exactly how many numbers are in the roulette wheel.
If you invested $100,000 in shares, you are now dealing with uncertainty. Trump’s antics this year are a perfect example of that. Will he raise tariffs? On who? By how much? When? For how long? Will he compromise? Is he bluffing? Will the other country retaliate? How will he retaliate to the retaliation? These are all questions that affect investor sentiment and therefore share prices, yet nobody can be reasonably certain what the answers to these questions are. This is just one of thousands of pertinent variables that affect share prices which display uncertainty.
So how do we deal with uncertainty? It helps to have the humility to admit there is uncertainty! Every now and again a new team of brilliant investors armed with PhD’s in astrophysics and quantitative finance will claim that they’ve mastered the markets, only for them to inevitably go down in flames (e.g. Long Term Capital Management).
At Stanford Brown we deal with uncertainty by focussing our efforts on managing our clients’ exposure to risk. We do not promise astronomical returns, nor do we guarantee that every year will be a smooth ride. What we do promise is that we will diligently manage your portfolios with the underlying aim of achieving your financial goals with fewer, shorter and shallower setbacks.
Writing a Will – Risk vs Uncertainty
Stanford Brown works with a panel of excellent professional law firms to help our clients write their intergenerational wealth plans. Inevitably, people always focus on the question of “where should the money go if we both go?” In particular (and understandably), Wills are often re-written in advance of a long plane flight. There is risk with flying. But there is certainty with buying that Harley and taking your partner for a spin. In fact, you are 3,028 times more likely to die on a motorbike mile than a plane mile.