At the Berkshire Hathaway Annual Meeting in 1997, Warren Buffett answered how he views investing risk.
An attendee asked Buffett, “in light of recent stock market volatility, could you give us your definition of stock market risk, and how does your definition differ from the standard definition?”
What is your understanding of risk when it comes to investing in stocks or businesses?
If you go with the mainstream version of risk, it would have you believe that stock market risk comes from how much a stock’s price moves up and down, known as “volatility.”
There’s this notion, especially in academia, where the more a stock is volatile, the more risk it might have. Warren Buffett and Charlie Munger have dispelled this idea, and they explained how they look at risk in terms of business risk.
If you’re investing in a business where you’re expecting some level of return, there are certain risk factors that have nothing to do with volatility levels. In addition to inherent business risk, there is also psychological risk on behalf of the investor.
Buffett explains why their idea of risk is different from the “standard definition” and why you can think of volatility as a friend rather than as a foe when you’re investing in stocks.
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