Stress-Reward Test

Weekly I/O#42

Stress-Reward Test: Take on stress only if the reward is valuable enough to justify the stress.

Article: The Most Powerful Decision Making Razors

When stressed, think about the upside of taking on that stress. Of course, we all know we should not be worried about uncontrollable things. However, even if the stressful things are controllable, we should still consider whether the reward is valuable enough to justify the stress.

I think this is applicable to risk too. Take risk only if the reward is valuable.

Higher risk doesn't mean higher return. Higher risk often just means higher expected return, a wider range of possible outcomes, and the less-good outcomes become worse.

As we can see in one of my favorite charts in the book The Most Important Thing from Howard Marks:



However, if the less-good outcome from the higher risk is unbearable or the expected return isn't even higher in some cases, we should not even consider taking the risk.

This also reminds me of a Tim Ferriss' interview with Master Investor Ed Thorp I recently listened to where Ed Thorp talked about unnecessary risks. He has a laundry list of those risks that gets longer and longer as he thinks about them more such as COVID, non-direct flights, driving, and jaywalking.

You can search for unnecessary risks in the interview transcript and find the paragraphs.

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