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Risk Is Not a Four-Letter Word

If you are serious about investing, I can't stress enough that you read this piece. And read it, as I have, over and over.

Zweig quotes Buffett and my pal, Doug Kass, a colleague at TheStreet. But it's the section on Ray Dalio of Bridgewater Associates, the world's largest hedge fund, that is worth the price of admission.

"When two intelligent parties disagree, that's when the potential for learning and moving ahead begins," Mr. Dalio told me last week. "The most powerful thing that [an investor] can do to be effective is to find people you respect who have opposite, different points of view [from yours] -- and have an open-minded exchange with them about what's true and what to do about it."

This principle, which Mr. Dalio calls "thoughtful disagreement," is more important than ever. Few sayings on Wall Street are more true, or more universally ignored, than "don't confuse brains with a bull market." When markets are around record highs, as stocks and bonds alike are today, those rising prices inevitably lead to overconfidence and complacency.

"When you think you're right, you don't go looking," says Mr. Dalio. "When you think you're right, your mind isn't open to learning. The more you think you know, the more closed-minded you'll be."

Adds Mr. Dalio: "The most common mistake of investing is the failure to distinguish something that's become more expensive from something that's still a good investment. Too many people [make] the mistake of looking to the price to gain confidence, without recognizing that that doesn't make any sense."

Dalio's comments are especially relevant in a world in which price trumps fundamentals, profits and even some business models. Look no further than Amazon (AMZN - Get Report), Netflix (NFLX - Get Report) and Tesla (TSLA - Get Report) -- the three horsemen of stocks that investors love to love, largely because they use and love the products -- and because each company is run by an innovative, larger-than-life CEO.

Underlying concerns about Herbalife's (HLF - Get Report) business model? No worries -- the stock price says the skeptics are wrong.

Even Green Mountain (GMCR - Get Report). Based on its stock, you wouldn't know margins and growth are sliding and that sales guidance has been chopped for several quarters in a row.

Reality: Risk in a high-velocity, momentum-driven bull market doesn't matter to individual stocks, until it does. (See Apple (AAPL) and Intuitive Surgical (ISRG - Get Report), as two recent examples.) Red flags are often flown prematurely and many times wind up becoming little more than (in retrospect) blips along the way.

But that doesn't mean the risks should be ignored.

Over the years, the ultimate compliment is when someone says something I've written forced them to go back and double-up on their research. Sometimes the process gives them more confidence in their position, if they own a stock; other times it gives them reason to rethink it and consider selling.

That's all you can ask for. The idea of thoughtful disagreement can't be overstated. It's part of understanding risk. And if you didn't get it the first time around, no, Virginia, risk is not a four-letter word.

-- Written by Herb Greenberg.

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Herb Greenberg, editor of Herb Greenberg's Reality Check, is a contributor to CNBC. He does not own shares, short or trade shares in an individual corporate security.


Chart of I:DJI
DOW 15,973.84 +313.66 2.00%
S&P 500 1,864.78 +35.70 1.95%
NASDAQ 4,337.5120 +70.6750 1.66%

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