Maxim 5 is the corollary to Maxim 1 (which was “never risk a lot for a little”):
5- Seize opportunities to risk a little for a lot—opportunities where the gain if you are right far exceeds the loss if you are wrong.
If we are observant, we’ll find that life every-so-often presents us with low-risk, high-reward opportunities. If we’ve followed Maxim 1 religiously in the meantime, we’ll be well-positioned to take advantage of them when they arise. But to do so, we have to first recognize them.
Recognizing low-risk, high-return opportunities is not easy because, almost invariably, we’ll be going against the grain of accepted wisdom. Here’s why:
Scientists have proven that humans are not rational actors, though they fancy themselves otherwise. Because they are both irrational and in denial about it, their decisions are usually anchored in all types of cognitive biases. These biases lead to unsustainable extremes in behavior. If you can spot these extremes, you’ll also spot opportunities to bet on their eventually demise.
For instance, one of our most deeply imbedded biases is the herding instinct. When humans are forced to make quick decisions in the absence of complete information, they instinctually follow the crowd. Consciously, we assume that the crowd must know something that we don’t (but it usually doesn’t). Unconsciously, we believe that we are less likely to succumb to an unknown threat if we are hunkered down in the middle of a pack.
This innate herding instinct is the source of most all trends and counter trends, booms and busts, fads and counterfads.
So, one way to spot exploitable, low-risk opportunities is simply to look for extremes in human sentiment, especially the sentiment of the establishment elites. When most all members of the establishment are all lined up on one side of an issue, which happens about once a decade or so, that’s an opportunity to place small bets on the opposite outcome. For instance, given the extreme sentiment favoring Hillary, betting that Trump would win the Presidency was a low-risk, high-reward proposition.
However, recognize that when we’re going against an extreme establishment tide, small bets are all that’s needed. Anything more than a small bet risks catastrophe and may violate Maxim 1. If we’re right, the payoff on a small bet will still be enormous. But if we’re wrong, the loss will be inconsequential.
It’s important to recognize that the establishment will in fact be right more than it is wrong, which means that we’ll lose our small bets far more often than we win them. But...that’s okay. When we’re right, we’ll be very, very right. And when we’re wrong, we’ll only be a little wrong.
On a society-wide level, extremes of sentiment usually manifest as easily identifiable panics and manias. Those are always good times to make small bets that go against the grain (though doing so takes a ton of intestinal fortitude). But Maxim 5 is effective even on much smaller scales. Whether we’re tasked with raising our children, hiring new employees, buying a house, making new friends or...most anything, we must seize most every high-reward, low-risk opportunity to go against the grain.
