The Rules of Risk A Guide for Investors

The Rules of Risk: A Guide for Investors By Ron S. Dembo, Andrew Freeman
2001 | 102 Pages | ISBN: 0471401633 | PDF | 3 MB
Most people consider only the upside when making investment decisions or any other major financial commitment, such as buying a house. We might give a passing thought to what might go wrong, but we rarely put as much effort in calculating the downside as we do calculating the upside.Seeing Tomorrow gives valuable insights, with numerous examples, into how this "upside bias" in our mental makeup can lead us to make unwise decisions. The authors draw on modern research into behavioural economics, with some striking conclusions.To give a very simple example, anyone who saw a $10 bill lying in the street would almost certainly pick it up, but those same people would probably not complain if an unexpected fee of $10 was imposed on a house purchase costing $500,000. The financial loss or gain is exactly the same in both cases, but our actions will differ depending on the case.The value of this book lies in its clear explanations and practical examples. The authors show the reader how to calculate the Upside of a contemplated investment decision if all goes well and our Regret (downside) if things go badly wrong. They go on to show how to estimate one's tolerance for risk and apply it to Regret. The result of Upside minus Risk-Adjusted Regret tells us if the investment is worth making for us. The conclusion may be different for another person with a different tolerance for risk. This insight essentially explains why markets work at all.Even if we don't actually do all the calculations suggested by the authors when we make financial decisions, we can still benefit greatly by giving some attention to the possible downside and how we would feel if the investment failed.Of course, the potential Regret in buying this book is that it, like most of the genre, cause unrealistic expectations of certainty in investing - at last we have the magic tool that will ensure our success!The book discusses mathematical concepts that may turn off some readers. The arguments are not always easy to follow.