One spring day in 2022, an elderly woman entered Paris’s Picasso Museum to see a new exhibit. Among the items on display was a decorative blue jacket, which was positioned on a wall next to a portrait of Picasso.
The woman liked the look of the jacket so she took it down from its hook, put it in her bag and quietly walked out the front door. Only later did the museum discover the theft, which was made even more embarrassing by the fact that it had been robbed several years earlier and had—it thought—upgraded its security.
What lesson might you draw from this odd event?
Some might see it as a reminder that the world is full of risks—and that risks can materialize when and where we least expect them. If even a well-guarded museum can be outsmarted so easily, then perhaps we all need to look for ways to harden our financial defenses. That would be one conclusion.
Another, perhaps opposite, conclusion would be to acknowledge that the risks present in the world today are actually too numerous and too varied for any of us to adequately guard against. And in light of that reality, perhaps the rational thing to do is actually to worry less. In other words, we shouldn’t spend our days trying to harden our defenses, since it’s an illusion to think that we could ever really succeed anyway.
Another reasonable way to look at the museum theft would be to recognize it as an outlier. Since the risk of oddball incidents like this is so small, we really shouldn’t let it affect our thinking one way or the other. Oddball events shouldn’t cause us to spend our days battening down the hatches, and at the same time, they shouldn’t lead us to simply throw caution to the wind. We shouldn’t draw any conclusion from them. Instead, we should put risks like this in the same category as other extreme events, like earthquakes or volcanic eruptions. Yes, we can acknowledge that they carry non-zero probabilities, but also recognize that they’re so rare that it doesn’t make sense to factor them into our thinking.
Which of these approaches to risk management makes the most sense? I’m not sure there’s an easy answer. That’s because risk management, in my view, is one of the toughest concepts in personal finance. For example, a recent article in The Wall Street Journal titled “Even Rich Retirees Fear Outliving Their Money” describes a paradox that economists refer to as the “consumption puzzle.” In short, studies have found that retirees are happier when they spend more. And yet, on average, retirees appear to spend much less than they could afford to.
The article references a new paper in which retirement researcher David Blanchett quantifies this phenomenon. Using the “4% rule” as a benchmark for a reasonable portfolio spending rate, Blanchett found that retirees spend, on average, just 2.1%. In other words, they could afford to double their spending without materially jeopardizing their plans.
Why are these folks spending so little—and why, on the other hand, do some people spend so much more than they can afford? My guess is it’s because risk is intangible, and it’s complicated. It takes many forms and, as a result, it’s hard to quantify and thus hard to manage. The result: When we think about risk, we tend to lean on emotion, instinct or rules of thumb. But there is, I think, a better way.
When I was in grade school, I had a friend named Gene. He was first-generation American, his parents having come from Italy. One summer, his parents let me tag along when they traveled back to see family. Two observations from that summer have stuck with me and, over the years, have formed the basis for how I think about risk. We can look at each in turn.
Gene’s family lived in a small mountainside town, but before we could make our way up there, we stayed for a night with a cousin who lived in downtown Naples. Especially then, Naples was known for its tougher neighborhoods, which I learned when our host locked up for the night. First came the usual chain and dead bolt. Then, from the opposite wall, he lowered a metal bar, which he wedged up against the front door to form a sort of barricade. Finally, he pulled down a bar from another wall and wedged that into place against the door as well.
Was this fellow a worrywart? I don’t think so. My sense is that he simply knew his neighborhood and was being rational. And that provides us with the first pillar of risk management, which is to recognize that risk is personal. In other words, we all face different risks. For Gene’s cousin, personal safety was most important, and so that’s where he focused his efforts. For others, the risks take different forms. The key is to assess the risks that might be most relevant to you and then to load up on protection in those areas.
In many cases, that protection will take the form of insurance. If you’re a young parent, life insurance is likely the highest priority, and my advice is to err on the side of over-insuring. Similarly, if you rely on a single income, it’s vital to carry disability coverage, expensive as it is. What if you serve on corporate or non-profit boards? Be sure you’re covered by directors and officers insurance. If you have a Porsche or a pool—or teenage boys, as in my case—you might consider extra umbrella coverage. But these are just examples. The most important thing is to avoid generic approaches and instead to identify and to manage the things that pose the greatest risk to you.
What’s the second ingredient for managing risk? Later that summer with Gene’s family, we went on a day trip with another relative. What I noticed was that the driver initially wasn’t wearing a seatbelt. But as soon as she got on the highway, she buckled up and made sure everyone else did too. I didn’t ask questions, but my guess is she did that because she perceived the highway as being more dangerous. In fairness, that was a long time ago, but data shows that this risk assessment was inaccurate. City streets actually pose a greater risk. That brings us to the second key pillar in risk management.
When deciding which risks to protect against, it’s important first to have a clear picture of those risks. To be sure, this isn’t always easy. Indeed, insurance companies have departments full of actuaries, and even they sometimes make mistakes. The key, though, is to avoid intuition and instead to look objectively and think systematically.
So as we move into the new year, my recommendation for financial housekeeping would be to conduct an assessment of the risks that might matter most to you. Could you afford to loosen your belt in some areas, or is maybe some tightening in order? Is there anything you’re overlooking? Like changing the batteries in your smoke detector, a risk audit like this is worth periodic review.
And what about the Picasso museum? They lucked out. About a week after the theft, the same elderly woman walked back through the doors. It turns out that her memory was slipping, and she didn’t realize what she had done. Police were able to locate the coat at her home, and she had no problem returning it. The only issue: She’d found it too big and during the time that she’d borrowed it, she had it tailored.
