Revisiting the First Principles of Investing: Is Risk Truly Symmetrical with Reward?

The endurance to withstand drawdowns is a key determinant of an investor’s ultimate success.

The notion that “risk and reward are roughly symmetrical” has almost become a universal truth in the investment world, often regarded as a golden rule. However, a closer examination reveals that this premise is conditional, and under different circumstances, the conclusion could be drastically different.

1. Volatility: The Entry Ticket to Long-Term Investing

“Greater returns come with greater volatility and drawdowns,” a statement that highlights one of the essential characteristics of investing. If an investor cannot tolerate a 10%-20% drawdown and hastily liquidates their positions, they essentially forgo the right to hold stocks for the long term. Market volatility is intrinsic to investing, and a 50% drawdown can be typical for even high-quality companies. There are no stocks that only go up, and market fluctuations are an inevitable reality. Tolerance for volatility directly determines the time horizon for investments—and time, in turn, is the ally of compound returns.

2. Two Views of Risk: Surface vs. Fundamental Differences

The statement “risk and reward are roughly proportional” holds some validity when viewed from the surface level of the market. High-volatility assets, such as tech stocks, might rise 100% or fall 50% in a year. Their potential rewards are high, but so are their price swings. On the other hand, stocks of banks or infrastructure companies, which may have volatility around 10%, typically offer more modest returns. From this perspective, risk and reward seem to be in proportion.

However, when we delve into the essence of investing, the situation changes completely. The real question is: How do we define risk?

3. Redefining Investment Risk

True risk is not price volatility but the potential for permanent loss. From this viewpoint, risk and reward are not symmetrical; in fact, the greater the risk, the lower the potential reward might be. The price fluctuations of high-quality companies are often superficial and temporary, while their intrinsic growth prospects are sustainable and enduring. A solid company’s stock price appreciates over time, driven by continuous earnings growth.

In contrast, low-quality assets, regardless of short-term fluctuations, tend to depreciate in value over the long run. True investment wisdom lies not in pursuing higher risks but in identifying and holding assets with sustained, intrinsic value growth.

4. The Core Contradiction of Investing: Short-Term Volatility vs. Long-Term Value

A fundamental contradiction exists in investing: to achieve long-term appreciation, one must endure short-term volatility. At the same time, true investment success does not come from bearing more risk, but from identifying and avoiding real risks. If risk and reward were always perfectly balanced, no one would make consistent profits, and investing would turn into a zero-sum game. However, this is not the case. Real investment masters are able to generate excess returns while taking on limited risk.

The key lies in distinguishing between price fluctuations and fundamental risk, separating market noise from the essence of a company.

5. Investment Insights: Moving Beyond the Surface, Grasping the Essence

For investors, this means:

• Reevaluating volatility: Viewing short-term drawdowns not as failures but as opportunities to test one’s investment conviction.
• Redefining risk: Focusing not on surface-level fluctuations but on whether a company’s fundamentals are deteriorating.
• Reconstructing the investment framework: Making decisions based on intrinsic value rather than market sentiment.
• Developing the right mindset: Staying clear-headed when others are fearful and cautious when the market is euphoric.

Investment is not a game of chance, but a discipline of capital allocation based on value judgment. True investment wisdom lies in identifying opportunities that appear risky on the surface but carry little actual risk, while avoiding seemingly stable but fundamentally dangerous assets.

So, is risk and reward truly symmetrical? From the essence of investing, the answer is no. Understanding this concept may be the first step toward long-term investment success.