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3 Tips to Be More Risk Savvy

The author of a new book on weighing risk offers advice to help you avoid falling prey to bogus statistics and trumped up risks.  
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What's the best way to get people to do something? Terrify them.

Politicians know this and so do marketers, who sometimes try to scare you into buying products you don't need with subtle threats of horrible outcomes. (Fail to make the right purchase? No one will love you! You'll be seen as an utter failure! Financial destitution awaits!)

But what if we were better at separating what's actually scary from what's not really worth worrying about? According to Gerd Gigerenzer, director of the Centre for Adaptive Behaviour and Cognition at the Max Planck Institute for Human Development in Berlin and author of Risk Savvy: How to Make Good Decisions, the world would be a far better (and more democratic) place.

As a recent interview of Gigerenzer in The Economist explains, "Mr Gigerenzer argues that being risk savvy is important if people are to protect themselves from being manipulated by politicians, doctors, financial advisers, and others who claim to be looking out for their best interests."

That doesn't mean learning to avoid risks; it means learning to be clever about choosing which ones to take--a skill that's especially valuable for business owners. It also doesn't mean mastering heavy statistics (though it's a subject that's easier to grasp than many believe, according to Gigerenzer, who claims to have successfully taught basic Bayesian reasoning to first graders). So what actionable, everyday advice for becoming more risk savvy does Gigerenzer share in the interview?

Pay Attention to How Risks Are Presented

Everyone knows that statistics can be massaged to produce different effects, but it's easy to forget that when you're talking to your doctor or broker--which can be a fatal mistake. Gigerenzer gives an example from the realm of cancer screening.

"The problem is not that people are stupid; the problem is that the information is often presented in a misleading way. For instance, women get information about breast-cancer screening in relative risk, which looks big, rather than absolute risk. For every 1,000 women who don't participate in breast cancer screening programmes, from age 50, about five will die in the next 10 years from breast cancer. And for every 1,000 women who do participate in the screening programme, it's four. But that drop from 5 in 1,000 to 4 in 1,000 is represented as a 20% reduction in deaths. This is deliberate misinformation," he writes.

Employ Rules of Thumb

Most of us will never be statistical ninjas wielding complex theorems at the bank or in the voting booth. That's OK, according to Gigerenzer. Clever rules of thumb often work equally well; you just need to know them and when to use them.

"Assume you want to invest money and you use the Markowitz mean-variance portfolio optimization [an investment model used by many banks]--Harry Markowitz won the Nobel Prize for that. But when Markowitz did his own investment, he didn't use his own technique but a simple rule of thumb, which is: Divide your money equally among your investments. So if you have two investment options, you invest 50-50. If you have three options, it's 33.3%. This rule of thumb is called 1/N," he says. "A number of studies show that investing this way typically does better than the Nobel prize-winning method."

Trust Your Gut

Intuition isn't always an appropriate tool for decision making, but it's a lot more powerful than many hard-nosed business types are willing to admit. "In our society, intuition is looked upon as suspicious. I have done a number of studies with large international companies and asked the decision-maker, how often do you make important decisions with your gut?" Gigerenzer says. "On average, we found that about 50% of all these big decisions were gut decisions. But the same managers would not admit this in public."

"A gut decision is not arbitrary, or a sixth sense. It's based on lots of experience," he concludes.

IMAGE: Getty
Last updated: Jul 11, 2014

JESSICA STILLMAN

Jessica Stillman is a freelance writer based in London with interests in unconventional career paths, generational differences, and the future of work. She has blogged for CBS MoneyWatch, GigaOM, and Brazen Careerist.




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