The nature of risk

2024 has been a momentous year. The UK has the first Labour government in 14 years, perhaps as much as a protest at the terrible job the previous incumbents did as for any great love of the new administration. The US has elected Donald Trump as their president again despite him possessing character traits that would have disqualified him from any office, let alone the highest one, perhaps only a decade or so ago. Israel's response to a Hamas terrorist attack last October, together with the strain that the Ukraine war has placed on Russia, has ignited monumental changes in the Middle East, which have most recently culminated in Syrian dictator Bashar al-Assad being ousted. There is a saying that there are years when nothing happens and years in which centuries happen. 2024 may well be viewed as the latter.

However, when reflecting on this year's events, none of these global stories have remained with me as much as a simple story of a man lost on a Greek island. In early June, the media reported that Dr Michael Mosley went missing while holidaying on the Greek island of Symi. He left the beach, where he and his wife had taken a ferry to in the morning, to walk to the apartment where they were staying. The distance wasn't far, at around two miles. However, the weather was extremely hot at over 40 degrees Celsius. He never made it back to his residence, which started a massive search and rescue operation. From what we can surmise, he became disorientated and took a wrong turn, ending up on a rocky path in a different direction. His disappearance made international news and sadly ended in tragedy. His body was discovered four days later by the wall of a private resort. It seems that he may have left the path in an attempt to seek help there but never made it.

As the year comes to a close, I have been reflecting on why this particular tragedy has stayed with me, whereas those affecting far greater numbers have faded away. While I enjoyed watching Dr Mosley's TV programs and read one of his books a few years ago, I had never met him and was far from being a superfan. It is perhaps because I saw a kindred spirit. Mosley was someone who desired to be evidence-based in understanding complex topics and communicating these to a wider audience. While I don't do this with anywhere near the skill, profile or reach that Mosley achieved as a communicator, I aim to do likewise.

Perhaps it is the irony of a man whose research and practice centred around longevity dying at 67 from misadventure. I can't help but feel that his search for a high quality of life into old age was part of his downfall. Because he understood the role that physical fitness plays in living longer, he was much fitter than the average 67-year-old. He attempted something few of his age would. Maybe, being a medical doctor, he also felt he had a good understanding of the impact of heatstroke and would be able to mitigate its effects. In this sense, his knowledge and experience were actually counterproductive. They led him to be overconfident in his ability and attempt something that, with hindsight, was beyond him (or at least had no leeway for navigational error.)

Perhaps it is the fact that I could easily see myself doing something similar and undertaking a short walk even in very unfavourable conditions, assuming my fitness and sense of direction meant it was risk-free. Maybe being around 20 years younger means I would have been fine in similar circumstances. However, I can never be sure. We have a tendency to sort activities into safe and unsafe, avoiding the ones we consider unsafe. We do the same with our investments. We put in place rules to sort investment opportunities based on our experience or what market commentators tell us. Perhaps the most popular is that large caps are safe; small caps are unsafe. Or manufacturers are safe, whereas resource companies are unsafe. Or US stocks are safe, and Indonesian equities are unsafe. The reality is that risk is a spectrum. No activity or investment is completely safe; very few are completely unsafe. I always aim to adapt my position size to reflect the perceived riskiness of an investment. Indeed, one of investors' regular mistakes is getting carried away with the potential upside and having too big a position size in riskier stocks. However, "safe" large cap US manufacturers can be significantly overvalued at times or even go bust. Just like there is no safe walk, just lower-risk ones, there is no such thing as a safe stock. Our position sizes should reflect this reality.

We also have a tendency to view risk in isolation and miss the big picture. The terrorist attacks on September 11^th 2001, didn't just claim almost 3,000 victims on the day; at least an additional 2,000 people died in vehicle collisions as a result of a greater tendency to drive after the attacks. Those who feared terrorism in air transport and drove, swapped one of the safest forms of long-range travel for one of the most dangerous. The effect is even worse when it comes to nuclear power. When the Chornobyl nuclear reactor exploded in 1986, there were only around 30 direct casualties. Up to a million people may have had their lives shortened or negatively affected. In Fukushima in 2011, the prefecture classified 2,129 deaths as "disaster-related" when a tsunami damaged the nuclear reactor there (excluding the almost twenty thousand direct deaths from the Tsunami itself). While each one of these cases is a personal tragedy, in numbers, they are dwarfed by the estimated 5.1 million deaths annually that can be attributed to air pollution from burning fossil fuels. These nuclear disasters reduced nuclear power generation in many countries, and it was replaced, at least in the short term, by burning fossil fuels. A greater number of deaths likely occurred from these emissions than in these nuclear disasters. Likewise, investors who are too risk averse and only invest in short-term government debt (T-Bills) out of fear of volatility tend to have particularly poor performance. Barclays estimates that US T-bill investors have generated negligible real returns over the last century. Meanwhile, investors in US equities who accepted the short-term volatility risk multiplied their money a thousand-fold. Looking at the big picture, "safe" T-bills were the riskier option.

It is popular in investing circles to describe risk as the impact of the unknown. After all, investing legend Warren Buffett says:

Risk comes from not knowing what you're doing

This is true; a lack of knowledge can undoubtedly harm our investing results. However, what we see from the death of Dr Mosley is that the seeds of my downfall are not likely to be in the areas where I am weak or unaware but in the places where I consider myself strongest. Those who knew they were unfit, were unsure of how high heat may affect them, or didn't know the walk was meant to be relatively short would not have attempted it. Likewise, the companies we know the most about are likely to be our weak spots because of our strength of knowledge. This comes about because of how we process information. Adding to our knowledge initially causes us to improve our decision-making. However, studies have shown that further knowledge gathering tends to increase our confidence far more than it improves our accuracy. We are the most uncalibrated about the companies we know best. This means we will likely be overweight these stocks, perhaps more than we should.

The final thing that the death of Dr Mosley causes me to reflect on is that the gap between safety and tragedy is surprisingly small. It seems that less than a couple of hundred metres separated a personal holiday anecdote from the sad end to the impressive life of a well-known figure. If he had managed to enter the private resort he appeared to be aiming for, he would have received help and medical care. We tend to judge risk by the eventual outcome, not the factors that make the activity risky. Investments that generate positive returns are viewed positively, even when the outcome was highly uncertain. However, unlike life-and-death situations, our investment outcomes are not binary. With a properly constructed portfolio, no one outcome can cause the death of our investment pot. My aim is to have a suitably constructed portfolio so that I can invest in sufficiently risky stocks to generate market-beating returns while being able to survive the inevitable challenges along the way. Only time will tell if I have got this balance right.

Wishing everyone a happy and appropriately risky Christmas and New Year. RIP Dr Mosley.