An economist walks into a brothel and comes back with lessons in financial risk
Author: Allison Schrager
Source: The Scroll (https://scroll.in/article/928505/an-economist-walks-into-a-brothel-and-comes-back-with-lessons-in-financial-risk)
Central to our investment philosophy is the idea of reducing risk to the extent we can, as elaborated in our blog “Crushing risk is more rewarding than chasing returns”. Allison Schrager, an economist and journalist has delved deep into the world of risk in her book “An Economist Walks Into a Brothel: And Other Unexpected Places to Understand Risk”. Allison ventures into ‘unusual markets’ to understand how professionals like sex workers, big wave surfers, celebrity paparazzi deal with risk in their lives and see if we can draw learnings for traditional industries. She says “Unusual markets often provide the clearest insight into how risk is assessed, bought, and sold. Because nothing is hidden in markets like sex work, the subtleties that exist in all markets are made obvious. This is why we can learn the most by studying how business is conducted at the edges of the economy and ap- ply that knowledge to more typical economic transactions.” A direct read across to investing is about how risk is valued in the stock market. “In most areas of economics, value is based on scarcity. It doesn’t work quite the same way in financial economics. Financial economics assumes risk is also a critical component of value. Goods that lessen risk tend to cost more. This critical piece of information can revolutionise the way you assess everyday decisions and help you make better, more informed choices.” Prospective investors often are concerned whether our portfolio stocks are priced to perfection. The fact these companies are run by clean promoters (low risk of minority shareholders getting a raw deal), sell essential goods (low risk of demand fluctuations) and are monopolists (low risk of margin fluctuations) needs to get reflected in their valuations whether through lower equity risk premiums in your DCF or any other preferred technique. What makes it less of an exact science is the challenge in quantifying each of these risks. Allison’s book provides some answers from the most unexpected places.
Note: the above material is neither investment research, nor financial advice. Marcellus Investment Managers is regulated by the Securities and Exchange Board of India as a provider of Portfolio Management Services and as an Investment Advisor.
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