Thread by @SBF_Alameda

1) Risk is weird! It's hard to think about well.

But it's really important to.

2) This thread is not exhaustive. It's also not investment advice, or risk advice, or advice at all; you do you.

3) There are 2 types of risk:

a) existential risk: the risk that youblow out or inhibit your ability to continue

b) other risk: risk where you're not at risk of seriously impeding your ability to operate.

By "risk" I mean "risk after EV". Burning $ isn't "risky", it's bad.

4) EXISTENTIAL RISK IS BAD. REALLY BAD! You don't want it.

Now 0 isn't really a number when it comes to risk, maybe asteroids will come as we'll all lose all our money (and bodies and shrubbery).

But "really fucking low" is.

5) Non existential risk is..... different.

a) One view: it doesn't matter much, you win some you lose some. Again here "risk" means "0 EV risk", so upside is as big as downside

b) Another view: sure but if you lose a lot of them then you're back at existential risk

6) So, ok, where does this leave us?

Well it means that other risk matters to the extent, but not as much. So how much?

7) Here we get to the key point.

EV IS LINEAR

RISK ISN'T LINEAR. RISK IS SQUARED.

8) Winning $3 is 3X as good as winning $3.

Risking $3 is _more than_ 3X as bad as risking $1. In fact it's *9x* as bad. (Assuming law of large numbers.)

Why?

Well say you have EV = +1 and risk = 1. Then you do that 25 times.

You now have EV = +25 and risk = 5 (!!!).

9) That's how gaussians add. And if you have enough things without wacky tails, that's how _anything_ adds.

This is equivalent to: variance goes as sqrt(time).

So the real cost you pay to risk is the square of the risk.

10) What does that mean?

It means that EV / RISK is not the right metric. EV / (RISK * RISK) is.

(Unless you're making many bets at once and RISK is correlated between them, in which case you add the RISK!!!)

11) So risking 10% of your stack isn't 1/5th as bad as risking 50% of it is. Risking 10% of your stack is only 1/25th as bad. That's a lot less bad!

BUT REMEMBER EV IS LINEAR. "RISKING" 10% IS REALLY BAD IF YOU'RE DEFINITELY GOING TO LOSE EACH TIME!

12) Anyway, I'm not commenting on specific situations, all I can say is that if Alameda _were_ to yield farm:

1) it would bear the risk
2) it would make sure the risk wasn't anywhere near close to in the realm of existential

https://twitter.com/kaiynne/status/1299515627250397185

13) Here's another way of looking at it.

What's the max % of your portfolio you'd put into YFI/LEND/COMP/SNX/etc.?

Those were worth < 10% recently, they definitely could maybe go back.

If you'd put more than 1.1% in them, you're willing to risk more than 1%.

14) So anyway the moral of the story is:

DON'T "RISK" 10% OF YOUR STACK IF IT'S NOT SIGNIFICANTLY POSITIVE EXPECTED VALUE. AND IF YOU THINK IT IS, IDK MAYBE IT ACTUALLY ISN'T.

STAY SAFE KIDS