Risk, uncertainty and how to risk
Risk and uncertainty are two very important factors connected to the human decision making. Most of our decisions are based on knowing the risks involved and their probability (which is uncertainty) to take place.
Risk is a concept that denotes a potential negative impact to an asset or some characteristic of value that may arise from some present process or future event. In everyday usage, “risk” is often used synonymously with the probability of a known loss. Paradoxically, a probable loss can be uncertain and relative in an individual event while having a certainty in the aggregate of multiple events. - Wikipedia
If you ask your boss for a raise (a desirable event) he could refuse you and say no (an undesirable event). If asking for a raise involves the possibility of rejection, then that possibility presents a risk. The more you know about the potential risks, the better you can deal with them.
Most people seek low risk activities which translate to a high probability of success, profit, or some form of gain.
What is risk?
To put it shortly, risk is the possibility of loss, damage, or any other undesirable event.
How to analyze risk
There are two points to keep in mind when analyzing risk.
1. Where is the risk?
Every change includes a certain degree of risk. By closely analyzing the changes (actions) that you want to make you will notice their potential risk areas.
Example: If I don’t go to work Tuesday I will have a great time with my friends but there is a chance that I will get fired. There are two potential risk areas: getting fired and not having a great time with my friends.
2. How significant is the risk?
Once you have identified the risks, quantify them. This means attaching a value to the risk to help you decide whether the risk is worth taking or not.
Example: If I don’t go to work Tuesday there is a 95% chance that I will have a great time with my friends and there is a 1% chance that I will get fired from my job; now imagine the same scenario with a 60% chance to get fired and a 30% to have fun with the friends. It’s easy to tell which case is worth taking the risk.
Uncertainty
Uncertainty is the lack of certainty, it is a state of limited knowledge in which it is impossible to exactly describe a future outcome, only a possible one.
“There is no such thing as absolute certainty, but there is assurance sufficient for the purposes of human life.” — John Stuart Mill
“In this world nothing can be said to be certain, except death and taxes.” — Benjamin Franklin
How is uncertainty connected to risk? They are connected because risk is a state of uncertainty. Risk involves some possible, thus uncertain, negative outcomes.
Although risk and uncertainty are hand-in-hand, they must not be confused with one another.
“Uncertainty must be taken in a sense radically distinct from the familiar notion of Risk, from which it has never been properly separated…. The essential fact is that ‘risk’ means in some cases a quantity susceptible of measurement, while at other times it is something distinctly not of this character; and there are far-reaching and crucial differences in the bearings of the phenomena depending on which of the two is really present and operating…. It will appear that a measurable uncertainty, or ‘risk’ proper, as we shall use the term, is so far different from an unmeasurable one that it is not in effect an uncertainty at all.” - Frank Knight
10 advices on risking
1. Decide whether the risk is necessary or desirable. Spend some careful thought before acting, so that you will not end up taking unnecessary risks.
2. Risk for the right reasons and when you are calm and thoughtful. Don’t take a risk because you are angry, hurt, depressed, desperate, or frightened. Don’t take risks just to get revenge or to harm someone else. Don’t risk when you are incapable of rational thought.
3. Have a goal. When you take a risk, have a clear purpose in mind so that you will know, after the fact, whether you succeeded or not. What will taking the risk accomplish?
4. Determine the possible loss as well as the gain. Know exactly what the consequences of failure will be. Unless you know pretty accurately what both loss and gain will be, you do not understand the risk. There is a tendency either to underestimate or to overestimate the consequences of risk. Underestimation can result in surprising damage, cost, setbacks, pain, etc. But overestimation is just as problematic, because it can keep us from taking the risks we should be taking. Many times, upon reflection, the worst case event of a failed risk is much less harmful or negative that we originally believed. It’s a good idea in fact to list all the good expected effects of a successful outcome and all the bad expected effects of an unsuccessful outcome.
5. Try to make an accurate estimate about the probability of each case. Is the probability of success one in two, one in ten, one in a hundred, one in a million? This can be sometimes difficult to do, but usually you can guess the probability within an order of magnitude.
6. When possible, take one risk at a time. Divide your actions or goals wherever possible so that you are not combining risks unless absolutely necessary. Simultaneous risking increases anxiety, creates confusion, and makes failure analysis very difficult.
7. Use imaging or role playing to work through the various possibilities, successes and failures, so that you will be mentally prepared for any outcome. Think about what can go right and what can go wrong and how you will respond to or adjust to each possibility.
8. Use a plan. Set up a timetable with a list of steps to take. Use the plan as a guideline, but be flexible.
9. Act decisively. When you have evaluated the risk and decided that it’s worth it, act. Go for it. Don’t hesitate at the threshold or halfway through. Once you get going, be courageous. Grit your teeth and move forward. Don’t procrastinate and don’t act half heartedly.
10. Don’t expect complete success. You may get it, but chances are the result of your risk will not be exactly what you had imagined and there will be more a degree of success than absolute success or failure.
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