Decisions as Risk

Writing financial trading software gave me a few interesting insights into risk. Most come across as obvious after you hear them, others not so much.

First off, both taking action and NOT taking action have risks. Do you buy TSLA today or not? Do you sell your EURUSD contracts, or not? Do you drive to that job interview, in the snow, or not? Do you call in sick with the flu, or not? Do you swim in the rip-tide prone surf, or not? Do you try the sashimi plate, or not? Most of us only consider the risk of the action. Rarely do we consider the risk of NOT taking the action.

Daniel Kahneman said: “I think one of the major results of the psychology of decision making is that people’s attitudes and feelings about losses and gains are really not symmetric.”

In line with this would be a decision to spend money on a new car. At the time of the decision most people would only consider the risks of the ownership of the vehicle: the new payments, the extra insurance, the risk of damage, the selling of the prior vehicle. And of course there would be the analysis of the benefits of the new car, which coincide — somewhat — with the risks I’ll mention here soon. Benefits would include safety, pride, conveniences, lower fuel costs, reliability.

Few people would look at the benefits of car ownership as risks of NOT buying the car.

This is my point. One *might* consider examining all choices as ONLY a balance of risks to be assessed. For instance, on buying a new car:

Buy risk:    new car payment,
No buy risk: old car breaks down,
Buy risk:    greater insurance,
No buy risk: greater risk of injury in accident,
Buy risk:    greater chance of theft,
No buy risk: old car does not impress - fail to get promotion.

And so on and so forth. The point is, one can interpret all decisions as a weighing of ONLY risks. Benefits can be considered as inverted risks: If you don’t buy the car, you won’t get that new car pride of ownership; absence or loss of a benefit is a risk.

If you present decisions as a list of risks — only — then you can more effectively make appropriate decisions. As the song lyrics by Rush go “If you choose not to decide, you still have made a choice.” There is risk in “opportunity lost.” In the end, by examining choices as sets of counter-risks you may make better decisions.

That’s one lesson.

Another is associated with this lesson and it has to do with money.

That $10 in your pocket is not static. It’s not sitting there doing nothing. By you owning that $10 what you’ve done is decided to place a LONG bet on the U.S. dollar. You bet — maybe unbeknownst to you — that while you hold that $10 (snuggled warmly next to your carkeys), the USD will become more powerful, will increase in value (or at least not lose value). That all other assets you *could* own will decrease in value in comparison.

You are, effectively, LONG the dollar. Most people have no idea that this is true. Every dollar in your checking accounts, in your savings accounts or squirreled away in mason jars is a LONG bet on the USD. And even more importantly, this bet is a risk. A risk you may not even know you are taking.

Every second you hold on to that $10 you are risking its depreciation, either through inflation or through the ebb and flow of world currency valuations. I’m not making this up, this is real. Sure the affect might be slight, and sure, in the last 5 years you’ve made out like a pirate; the USD has only gone UP in value (little inflation and rising comparative value vs all the other world currencies). But this is soon to come to an end.

Money, all money, is risk. Do you stay LONG the USD? Or do you buy that new car? (Thereby going SHORT the USD and LONG the auto industry….)