As National Preparedness month continues across the country, property owners and managers follow guidance and suggested best practices delivered thru top 10 lists from partners like Building Engines (10 Best Practice Points for Property Team Preparedness) or BOMA (Preparedness Top Ten List for National Preparedness Month.) The question is, who is preparing adequately for the Black Swan Event?
In his 2009 book, The Black Swan: The Impact of the Highly Improbable by Nassim Nicholas Taleb, the author makes the case that business owners and risk managers place too much weight on the odds that past events will repeat. Instead, the really important events are rare and unpredictable. He calls them Black Swans, which is a reference to a 17th century philosophical thought experiment. Nassim argues that most of the really big events in our world are rare and unpredictable, and therefore, trying to extract generalized stories to explain them may be emotionally satisfying, but it’s practically useless.
In an October 2009 Harvard Business Review article entitled The Six Mistakes Executives Make in Risk Management, Nassim and his co-authors summarize the primary points of his book and their research in the following manner-
Six critical mistakes that many executives and risk management professionals make in risk management:
1. We think we can manage risk by predicting extreme events
2. We are convinced that studying the past will help us manage risk
3. We don’t listen to advice about what we shouldn’t do
4. We assume that risk can be measured by standard deviation
5. We don’t appreciate that what is mathematically equivalent isn’t psychologically so
6. We are taught that efficiency and maximizing shareholder value don’t tolerate redundancy
They continue by presenting 6 answers or solutions to those mistakes:
1. Instead of calculating the odds of whether things will happen, rather think about what you will do if they do happen (This is your response planning!). People who can handle one type of crisis, always have the potential to handle many types of crises.
2. Hindsight can never be converted into foresight. Lessons should be learned from the past, yes, but the past should not be used to predict the future.
3. A dollar not lost is a dollar earned, and preventing losses is perhaps a better strategy than gaining profits, and risk management activities are in fact profit-generating activities. There is no separation.
4. Statistics is a complicated science and the often cited standard deviation is not average variation, but the square root of average squared variations. Although in a perfect world of randomness, most events fall within the -1 and +1 standard deviation, in real life (“Black Swan”), movements can easily exceed 10, 20 or 30 standard deviations. (…This is what your real exposure can be.)
5. In absolute quantified numbers, two events may be equal, but subjectively, in a group of people, the same event may have very different value to each of them and may be understood entirely differently. After all, number are just numbers, feelings, values, and risk acceptance are not so uniform. (…This is the real risk to your business.)
6. Optimization of processes makes them vulnerable to changes, but robust processes can survive change.
There are no shortage of Black Swan events we can point from the past decade that have impacted the real estate ownership and management community. Make sure that you give some thought to how you can apply some of these principles to your risk management plan during National Preparedness month.