Sharpe on thinking about risk

 

"If you're not thinking about risk, then you're not thinking." William Sharpe

"Portfolio management is risk management" is a mantra that I follow. Risk cannot be separated from return. If I can lower my risk, I can increase the Sharpe ratio without focusing on finding a better-returning asset. Of course, lowering risk will impact return. There is a cost to risk management. The secret is trying to manage the risk at a low cost. The critical component is portfolio construction because diversification is the only free lunch in finance.

A pet peeve of mine is that managers often discuss the return generation process before jumping to the risk management discussion. I understand that it is easier to separate the two, yet the link between return and risk is critical.