American culture and Wall Street culture in particular tells us that there is no reward without risk. This is not really true, of course. Some of the biggest rewards in life are just a matter of doing. You never completely escape risk in life, but for many things, the risk is trivial compared to the reward.
My favorite example of this is the public health advice of washing your hands after arriving home from the subway or school. Where is the risk in washing your hands? Yet the reward is fewer cases of flu, and not just for yourself, but for everyone you see during a period of a few days afterward.
Maybe the risk of washing your hands is boredom. That is a joke, yet at the same time, it is not a joke.
The association between risk and reward has become an automatic habit for many people. They seek out risk like a rainbow, imagining it will lead them to the pot of gold.
People do this even though we all know intellectually that there is no value in risk in itself. There are countless ways you can put yourself or your assets at risk in which there is no plausible story of anything good coming from it. People who have adopted the thinking of risk and reward do this out of habit. They think they seek risk as marker for possible reward, but really they are seeking risk just for the excitement. The story about the reward may be no more credible than the story of the pot of gold at the end of a rainbow, and the imagined reward, when studied closely, often turns out to be smaller than the risk.
When the habit of risk-seeking takes hold, countless rewards that come without risk are neglected.
Financial risk-seeking is always an epidemic at times like this when bank interest rates and other conventional returns on capital are low. It leads people to seek out riskier investments, including ones that can’t be justified rationally, such as the recent Facebook IPO, or the Ponzi schemes that we read about in the news several times a year. A heightened level of aggregate risk-taking leads inevitably to big financial crashes.
It is a topsy-turvy time of rapid and unpredictable change to begin with, when the ambient levels of risk are already higher than we would normally expect. To counter this, we need more low-risk and risk-free rewards. Things like taking out the trash and washing our hands, and whatever similar things we can find on a larger scale.