RISK IS SUCH A SIMPLE LITTLE WORD THAT IT IS AMAZING HOW many different meanings are given to it by different users. Risk is different from uncertainty. Risk describes the expected array of payoffs when both their magnitude and their probabilities of occurrence are known. Actuarial mortality tables are a familiar example. The actuary does not know what will happen in 14 years to Mr. Frank Smith, but she does know quite precisely what to expect for a group of 100 million people—in each and every year. “Riskiness” in investing, by contrast, is akin to uncertainty, and that’s what the academics mean when they discuss beta (relative volatility) and market risk. Too bad they don’t use the exact terms.

Risk exists both in ...

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