According to Mihir Desai, Professor of Finance and Law, Harvard Business School, and Author of The Wisdom of Finance, behind the complex jargon and the technical details of its implementation, finance is based on very simple principles. Chief among these principles is how to manage risk. Because every activity in life entails risk, especially those with the highest rewards, it’s not a question of avoiding risk altogether. Instead, finance is about exploring regularities—patterns of risk and reward—to manage the chaos of the world.
What You'll Learn
How to communicate complex ideas clearly
How to create value for customers
How to manage financial risks
How to define your true goals
1. Bring Academic Ideas to Life for Your Audience
How do you communicate a concept like, say, amortization, so that any educated person can understand and relate to it? In Mihir Desai’s experience writing The Wisdom of Finance, with its ambitious, stated goal of “discovering humanity in the world of risk and return”, it involves a lot of perspiration and a bit of inspiration. There are no shortcuts, but there are a few consistent principles—chief among them: find the right stories.Explore different teaching anglesIn highly technical fields, ideas are often hard to grasp—both for outsiders and people in the field.Think about the underlying concepts of a complicated phenomenon. Can they be made simpler by non-traditional means?Rather than attack the idea head on, ask: Can I map the idea to the ways people might apply it in their own lives? Can I explain the idea with storytelling? with literature, history, and philosophy?Establish an organizing principleCrystallize your core set of ideas and then separate them. This becomes the ...
2. Focus on Value Creation
For an industry and an economy to grow and thrive, its members need to be adding more value than they’re extracting from it. Too often these days, this just isn’t the case. The fundamental trouble isn’t necessarily overt greed on the part of businesses so much as a lack of introspection. A failure to take a long, hard look in the mirror and ask: are our products truly creating value for our customers, or are we merely skimming value off the top of existing processes and instruments?Think hard about your business. Ask: How much of our underlying economics are associated with furthering value-creating activities?For example: Do we make things more efficient? Do we spread risk in a good way? Do we enable investments that wouldn’t have happened otherwise?How much of our business is about skimming a piece out of a transaction that would’ve happened without us? Is our product actually serving a customer’s needs? Are we really creating value for them?
3. Make Sense of Chaos: An Introduction to Risk Through the Lens of Finance
Behind the complex jargon and the technical details of its implementation, finance is based on very simple principles—chief among them, how to manage risk. Because every activity in life entails risk, especially those with the highest rewards, it’s not a question of avoiding risk altogether. Instead, finance is about exploring regularities—patterns of risk and reward—to manage the chaos of the world. As the father of Pragmatism, Charles Sanders Pearce, put it: We are all insurance companies.Understand that risk is omnipresent. It’s embedded in everything we encounter in business and in life.Risk is not complete randomness. Risk can be understood and managed.Risk management is about recognizing patterns to help us navigate uncertainty.
4. Understand the Situation You're In: What Individuals Can Learn from Shareholder Revolts
If you’re not versed in finance, and even if you are, you might be skeptical about the following claim: Many of life’s challenges boil down to the “principal-agent problem”—the relationship between prime movers and those who are supposed to be acting on their behalf. Think about it, though: many marriages fail because of fundamentally irreconcilable life goals. People quit jobs because they feel micromanaged by their bosses. Individuals struggle to separate their own goals from the pressures of society. And pretty much every action we take exists somewhere on the spectrum between self-determination and following orders.The Principal-Agent Problem: The problem of motivating one party (the agent) to act on behalf of another (the principal).How do investors (principals) who give their money to entrepreneurs and managers (agents) figure out whether they’re going to see a return?Agents may have their own agendas. Principals can’t watch agents that carefully. Agents may do things o...