Rules for Conquering Risk

In How the Wise Decide, authors Bryn Zeckhauser and Aaron Sandoski cite a study by Princeton psychologist Daniel Kahneman. The study finds that “our brains are programmed to worry substantially about the possibility of loss, and not enough about the size of the loss relative to the gain. We don’t like to lose period.” It’s called risk aversion. It means that we put a far greater weight on losing than on winning.

The authors say the problem arises when our penchant for risk aversion begins to cloud our thinking. They write that we “can get so caught up in the possibility of losing that we ignore the realities of the situation.” We “wind up shying away from taking a risk even when the probability of winning big is high.”

They ask, “What if you could routinely overcome loss aversion? Think of the possibilities if your competitors, shrinking before the prospect of possible loss, shun a move that you know has a very good possibility of succeeding. What a competitive advantage! Wise leaders are constantly searching for ways to use that advantage.”

Rather than fight over the same fabric as everyone else – low risk/high reward – it’s better to investigate those situations that appear to be high risk/high reward. They give five rules for dealing with or fear of risk:

Identify What Really Drives the Risk. Conventional wisdom can keep us from seeing reality. Ask what drives the risk and what information do I need to evaluate that risk.

Reward People for Taking Smart Risks. Reward your team for “simply making the smart decision, not the outcome of their decisions….You have to engineer the risk-taking environment that best suits your own situation.”

Test the Waters Before Taking a Plunge. “Sometimes it pays to let a concept simmer for a while, experimenting with an idea before fully committing to it. Experiments limit your downside risk, but not your upside reward.”

Create a Risk-Tolerant Environment. Dean Kamen of DEKA Research & Development says that he wants “outrageous new ideas about the project that go well beyond the normal constraints of time and budget. The trouble is, if you carry the basic human aversion to risk and the need to be predictable and meet schedules into the world of R&D, you’re snuffing out the future.”

Ask “What Would It Take?” The question helps you make the right decision, not the safe one.

Conquering the fear of risk is just one of the six core decision-making principles presented in the book. The other five are go to the source, fill a room with barbarians, make vision your daily guide, listen with purpose, and be transparent. All are worth examining for finding application in your particular situation.

Posted by Michael McKinney at 09:38 PM
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