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10 – Attitude to Risk
We are very poor judges of risk as human beings. In our society we invest huge amounts of money in reducing some risks, then are very careless about other risks.
So, for example, the amount of money to ensure that aircraft are safe, compared to the number of deaths from aircraft failing, is completely disproportionate to the amount of money we spend on making sure that our smoke alarm in our house works, compared to the likelihood of being burned alive in our house.
This is important to bear in mind as we talk about attitude to risk and how that can impact your likelihood of success.
The power of a risk register
When I’m working as a consultant or working to advise CEOs, I always encourage them to have a risk register. This at least gets them to take a view about what all the risks are that they face, the likelihood that they would happen and the level of impact if they do happen. For the risks that are high likelihood or high impact, or medium likelihood and medium impact, then they can start to think about how they can reduce the likelihood or reduce impacts. This focuses on the negative risk: things that we don’t want to go wrong. That’s a useful thing to do.
But I don’t think success for most people comes from better avoiding the risk of things going wrong. When I worked for a big consulting firm, we used risk as a way of judging the cost of an opportunity, versus the reward from an opportunity. If there was a high reward, then we accept a higher risk if the cost was acceptable. This is a much more balanced approach to risk.
Loss aversion bias
But there is a significant bias we have as human beings that underpins our attitude to risk. Most people are loss averse. If there is a choice between losing £5 or winning £5, people would prefer to avoid losing £5 than winning £5. See how you respond to this thought experiment:
Imagine if I said to you, ‘on a coin toss if you bet me £1 that it’s heads and you win, I will give you £10. But if it’s tails, I get your £1.’ From a pure risk point of view it makes sense for you to carry on putting your one pounds in forever.
But if I said to you, ‘if you bet £10,000 on heads, I’ll give you a £100,000. But if it’s tails, you give me £10,000’ suddenly your perspective shifts. Your aversion to losing £10,000 is huge. This is loss aversion bias.
Engaging your loss aversion bias
I find it very useful to approach risk with the question, ‘what can I afford to lose?’ If I’m prepared to invest in a new marketing activity, or take a risk with a new job, or buy a more expensive house, then, I look at what I can afford to lose. Now I’m addressing loss aversion bias directly. Now I can focus on the upside. If the upside of buying a bigger house is a happier family, more investment in an appreciating asset and in the worst case, I have to give the house back to the building society and go and live on a boat. That is a loss I am happy to bear.
Risk is just Negative Opportunity
If we never take risks, we never access opportunities. Check out the article ‘Attitudes for Success: Attitude to Opportunity’.
To improve your attitude to risk I would suggest you look at those areas your life where you’re happy to take risks. Maybe you’re the sort of individual who’s happy to take physical risks: jumping out of aeroplanes or doing rock climbing. How do you balance the risk against the reward? Consider your attitude to financial risk: are you prepared to bet the whole family’s finances on some stock exchange tip? Would you want to make sure that you don’t spend any money until your pension contributions are maxed out? Do you want to ensure rain day savings and emergency fund is fully topped up before you have the extravagance of a family holiday in the sun.
Look at your attitude to relational risks. Do you take risks with people? Are you happy to accept that people will let you down and disappoint you? What is your attitude to risks on behalf of other people? Maybe you’re happy to risk everything for yourself, but you have a completely different attitude to risking things for your family, staff in your business or relationships with your friends.
As you better understand your attitude to risk in these different areas, you can make more powerful choices that will bring you to success. Your attitude to risk will determine how you can build the success you want. Managing risk versus reward with a realistic assessment of what loss you can bear will unlock a key attitude for success.
Charles McLachlan is the founder of FuturePerfect and on a mission to transform the future of work and business. The Portfolio Executive programme is a new initiative to help executives build a sustainable and impactful second-half-career. Creating an alternative future takes imagination, design, organisation and many other thinking skills. Charles is happy to lend them to you.