Understand Risk?

It can be difficult to think through the concept of "more things can happen than will happen". It is so easy to discount the things that can happen but just don't happen very often. Check out this article by Peter Bernstein from The New York Times entitled "What Happens if We're Wrong?"

Sophisticated investors claim that they spend a lot of time devising and executing risk management. But if they were managing risks, how could it be that leading financial institutions flirted with total ruin and that the usual flows of credit were frozen solid? The debacle from which the system is now trying to emerge suggests that prevailing risk-management strategies were managing the wrong risks. Surely, a reversal in home prices was a risk to be reckoned with, but it appears to have played no role, or at least none that mattered. These issues are not only for today's financial turmoil. They go to the very root of what we mean by that four-letter word “risk.” Risk management is inherently impotent when it ignores the true definition.