The above video is a great example of how financial media deals with volatility. In short, volatility is good for Wall Street. Financial television especially is built on the idea of using volatility, wherever it may be, to capture eyeballs.
A couple of smart bloggers riffed recently on a passage on risk in Warren Buffett’s latest (2015) letter to Berkshire Hathaway shareholders. Josh Brown writing at LinkedIn touches on how Wall Street conflates risk, as measured by volatility, into a problem that investors supposedly HAVE to solve. Josh writes:
The modus operandi of a lot of Street denizens is to present something as a problem for you so that they can sell you the solution. By putting the fear of volatility in front of you as though it’s a serious long-term risk, the door is then opened for all manner of high-cost, horrifically ineffective products or strategies. My partner Kris likes to say “the easiest way to sell someone a map is by first convincing them that they’re lost.”
Cullen Roche at Pragmatic Capitalism notes that Buffett is very aware of the limits of textbook (and Wall Street) models. Roche writes:
Risk is the potential that we won’t meet our financial goals. And for most investors that means protecting against purchasing power loss and the risk of permanent loss. Focusing on risk as volatility often leads investors into an unbalanced perspective where why they actually believe they can take far more risk than is appropriate simply because stocks tend to be skewed towards positive returns over the long-term. But this totally ignores the fact that most investors also desire balance between generating high returns and creating stability in their savings. Misunderstanding risk is often the biggest mistake we make in the process of portfolio construction.
Marshall Jaffe at ThinkAdvisor has a very thoughtful piece up talking about uncertainty. In finance we often talk about the distinction between risk and uncertainty. The idea being that somehow we know have to model securities prices in some coherent fashion. However episodes like this belie our ability to say much about markets with much certainty.
Jaffe’s larger point is that everything in life and investing is uncertain. Despite this we continue to wake up every day and (hopefully) plan, save and invest for the future. Jaffe writes:
I think the solution to this dilemma can be found in the most mundane place: our own lives. If there is one constant in everyday life, it is uncertainty. When we wake up in the morning, we have no idea exactly how our day will end. Sometimes it progresses within the boundaries of our normal expectations, sometimes not. But anyone who has made it to adulthood understands instinctually that there are just no guarantees. The important point in this is that most people seem to be able to carve out a reasonably normal life despite the inconvenient fact that we can neither control nor predict it.
There are no guarantees in life or the markets. Investors should be wary of anyone telling them otherwise. Run away quickly if they are trying to sell you something that purports to eliminate risk or uncertainty.