RISK IS A FOUR-LETTER WORD
Security is mostly a superstition: it doesn’t exist in nature.
The interaction between investor psychology and the uncertainties of both capital markets and individual cash flow needs mandates a new set of investment solutions.
Fear of risk is probably a client’s most restrictive investment constraint. One of the unique contributions of the wealth manager is the ability to assist clients in effectively dealing with the frightening specter of risk. It is the one constraint that most often prevents clients from achieving their life goals. This chapter provides the wealth manager with information, insights, and techniques to assist in better communicating with and educating clients about risk.
Prior to the development of probability theory, the issue of investment risk was moot. After all, the gods (or God) either did or did not provide rain for the crops. The concept of risk implies an ability to assume or avoid risk. For our ancestors, things (e.g., rain) either happened or did not happen. With the development of the concept of probability came the modern concept of risk.
For the modern wealth manager, the seminal event was the 1952 revelation of Harry Markowitz: “I was struck with the notion that you should be interested in risk as well as return.” In hindsight, this seems a fairly obvious observation, but Dr. Markowitz was awarded the Nobel Prize in 1990 for his work that evolved from this simple notion.