Thursday, August 2, 2012

The "it's all risky" argument

Seal of the United States Federal Deposit Insu...
Seal of the United States
Federal Deposit Insurance Corporation.
(Photo credit: Wikipedia)
Sometimes when you criticize a particular opportunity on how the unknown factors makes the whole thing extremely high risk, you get a retort "but the stock market is risky too, just look at the dot com bust!"

That's a bogus argument, because there's a huge difference between "activity risk" vs. "institutional risk". This is a "fallacy of equivocation".

When an opportunity is "high risk", the risk is institutional risk, as in there is some fundamental risk in the company itself, in the institution.

If you deposit money in a bank, you are NOT worried about the bank going under tomorrow and your money disappearing. Even if the bank do go under, in the US all bank deposits are covered by the Federal government through FDIC. Your institutional risk in a bank is zero.

If you deposit money into a stock brokerage, and play in the stock market, you are incurring two kinds of risk... a risk of activity (as in "I invested, I could be wrong and lose money"), or a risk of institution, where the brokerage goes kaput and I lose all my money there.

A stock brokerage cannot afford to have any institutional risk. In fact, they are insured by FINRA. Thus people were VERY surprised when the Feds decided to NOT bail out Lehman Brothers at the beginning of the bust almost a decade ago. They thought SOMEONE would have bailed them out, but nobody did.

But activity risk? That is up to the individual investor, not the institution.

Not to the MLMers though. To them, the institutional risk is the SAME as activity risk. "It's all risk", they claim.

As long as they perform the activity (recruit people, buy bids, sell membership, whatever) they believe there are no institutional risk. The company will be around as long they do their job.

Clearly, that is a fantasy. Disasters can happen. The company can be shut down by the government as fraud.  Lots of things can happen.

Be aware the different between different types of risk.

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