Risk versus uncertainty

The little one is starting middle school next week and unlike the elementary which was on the same block that we live on, the new school is seven blocks uptown and two avenues over. So naturally and much to my wife’s chagrin I bought an adult scooter to ferry us over every morning. (If you think the prospect of avoiding a  15 minute walk is a  laughable problem - well then my friend you clearly don’t live in New York :)).

In any case the wifey insisted that if I was going to proceed with this idiotic scheme I had to wear a helmet and I actually agreed, because as a good buy side portfolio manager that she once was, she is keeping her eye on the risk. The risk in my setup is not that I could trip over a crack in the sidewalk or that a taxi could accidentally clip us at an intersection. The risk isn’t even that I could fall off due to my own clumsiness. The real risk in this transportation scheme is that I could hit my head which is the only part of the body that will not mend easily.  So as a good wife and even better trader she is trying to minimize the risk.

As traders we  often conflate risk with uncertainty  which leads us to make terrible decisions often at the worst possible times. No one is more guilty of that sin than yours truly, but as I grow older I am finally learning to discern the difference. How is risk different from uncertainty? First  and foremost it's mostly quantifiable. If you make a trade and it goes to zero your risk is 100% of your money. If you used 10:1 leverage to make that trade and it goes to zero your risk is 1000% of your initial capital. That’s just basic math and it’s really not in dispute.  

So what then is uncertainty? Uncertainty is just the path life takes. That trade you made? Well it could have doubled after you bought it, but is there any assurance that it would have continued to rise? No. Just ask all the millennials who scoffed at me when I begged them to sell just part of their Bitcoin holdings at 65K. Maybe the HODLers will prove me wrong, but may be not. Having lived through the dot com bust and the Real Estate bubble perhaps I’ve just developed a greater awareness for uncertainty.

Uncertainty is with us everywhere in life and certainly in the market itself. We start today on a high note as the Non Farm Payrolls paint a Goldilocks scenario of just enough growth but not too much pricing pressure and stocks take off to the moon and then the Russians shut off the gas and the markets fall twice as hard as they rose.

Uncertainty is simply everyday living but many of us are just not aware of it. My wife is always shocked at my nonchalant attitude when I remark that on any given day I could get hit by a cab or get a terminal disease  and I am perfectly ok with that. I have tons of insurance, I tell her. (See, I think about risk also). But this East European attitude is borne of a very tumultuous life full of variance from birth in which I’ve had to change cultures, change social statuses and ultimately change myself to adapt to wildly different circumstances. 

For many people who live in OECD nations, become well educated and earn enough money to speculate in the markets that type of everyday uncertainty doesn’t exist which is why trading becomes such a psychological bitch slap. It’s not just that markets are wildly unstable, it’s that they are always unstable in different ways so unlike a difficult dental surgery or a tricky recipe for souffle you can never be confident in mastering the craft. That’s why the best practitioners of game like Soros or Druckenmiller are not great analysts (both have been known to reverse billions of dollars on a dime) but are simply very comfortable in living with uncertainty while ruthlessly keeping an eye on risk.   

Once you begin to realize that there is nothing more uncertain in life than your next trading setup you can develop a healthier, more stoic attitude towards the market that could even help you deal better with real life itself.