What Troilus and Cressida teaches us about managing risk

Bust of Shakespeare

Troilus and Cressida is a tragedy by William Shakespeare, set against the backdrop of the Trojan War. Having besieged Troy for seven years, the Greeks try and persuade their hero Achilles to return to battle to engage the Trojan champion Hector in one-on-one combat.  Meanwhile, the Trojan prince Troilus falls in love with Cressida, after her uncle Pandarus arranges for them to spend a night together. But Pandarus then sells her to the Greeks in exchange for a Greek prisoner of war, leaving Troilus angry and heartbroken.

The key moment

At the start of the play the Greek generals are debating whether they should abandon the siege. The general Nestor urges them to continue, arguing that in “the reproof of chance lies the true proof of men”. He points out that a flat-bottomed “bauble boat” may appear to do as well as a larger ship in good weather, but when the weather turns, “the strong-ribb’d bark through liquid mountains cut” while the “saucy boat” is “either to harbour fled, or made a toast for Neptune” (ie, sunk).

Lesson for investors

Sooner or later you’ll experience bad luck, so it’s vital you have a plan to cushion the blow or at least understand the risks you’re taking. If you don’t there is a good chance you could end up becoming exposed and lose part of your portfolio. A contemporary summary of Nestor’s speech came from legendary investor Warren Buffett when he said “you only find out who is swimming naked when the tide goes out”.

Other financial wisdom

Nestor’s speech also illustrates the fact that most financial risk management involves trade offs between risk and return. Just as a galleon will manage better than a yacht in rough conditions, but will be slower in better weather, a conservative approach to investment will lower risk, but at the cost of lower returns. Some investors try to get around this through market timing. This approach, also known as tactical asset allocation, involves investing more aggressively when you think markets are about to rise, and cutting back on risk when you think they are likely to fall. However, predicting the future direction of the market is extremely difficult, and bad calls may hinder your returns.