Is warren Buffett risk averse ? Well we will get into that problem later, but what is Risk- Aversion ? Its disliking to risk, Daniel kahneman gave the Prospect theory in which he proposed that People are more sensitive to losses and gains, For 1 Rs in loss people expect a 2 Rs in profits.
A look at the below chart shows us that the curve is a S curve which means people are more sensitive to losses than gains, When there is an equal likely outcome, Risk-Averse people tend to demand more.
Assume a coin toss of a 50-50 probability of H or T, You are given that if its a Head you gain 50 Rs and If its a Loss you lose 25 Rs, which means the expected value will work out like this
Heads 0.50 x 50- Tails 0.50 x 25 = 12.5 , would you take this bet ?
If your a prudent investor you should always take this bet, based on Law of large numbers, as long as you play this game the probability of losing your money becomes miniscule.
Daniel kahneman also talks about the Reference point from which you are considering your investment. There are 2 persons considering investing in a stock A has recently lost a 1 lakh in stocks and has a net worth of 200 Crs and B has total net worth of 100 Crs and recently gained a 25000 from stocks, you are offered a bet that buying a stock Y will give you a decent return. All said how will both the investors above approach the investments ? It depends on their Reference Point
First the Reference point for both is different, despite having a huge net worth they tend to think from the recent " Reference point" of 25000 gained and 1 Lakh lost, most People don't think this way " I have a Net worth of 100 Crs, so investing 1% is just 1cr and losing it doesn't do a thing "
Is warren Buffett Risk averse ?
This is not easy to answer, but on October 1969 Warren Buffett shut down his partnership saying he couldn't find any good ideas to invest and he returned his investors money.
Why did he do it ? Would a fund manager attracting fees and commissions do such a thing ? Well he did it because he was "RISK- AVERSE". As the markets started to heat up the Risk : Reward was not properly priced in, people were bidding up stocks to such exorbitant levels that buying anything justified. When that happens value investors are not able to find bargains to invest which causes them to be Risk -Averse which is one of the prudent things to do.
Howard Marks explains in his book The Most important thing, You should know about the cycles of the market and where you are in, which is not predicting, but a few qualities of the market will help you see clearly which phase of the markets we are in.
Cheap availability of credit
Low interest rates
Low Risk-aversion and very high Risk-seeking behaviour.
Lets apply this to Indian markets In 2020 after Covid crash, there was abundant liquidity in the system, the Interest rates were super low these 2 attributes led people to start buying stocks and bid up the prices heavily, the third of which is the Risk-aversion, when stocks are bid up to such high levels people are not RISK-Averse they are Risk-Seeking which is the opposite of Risk- aversion.
Warren Buffett was super smart to be Risk-Averse when everyone were Risk-seeking and eventually when the crash came he came back into the markets and rest is history. He came back when people were highly Risk-Averse and that is the time he was Risk-Seeking, The prices has come down and there were no buyers fearing of more crash which is the psychological Risk-Aversion, When masses are not willing to invest that is the right time to tilt the tendency and start to invest.
So Risk-Aversion and Risk-seeking per se is not a bad thing, but you should know when you should be applying both these tendencies. The Reference point from which you approach these situations are important as its only based on reference point investor makes investment choices with or without awareness this happens. what you call opportunity cost is also a Reference point.
TO answer the question Is Buffett risk-averse or risk-seeking ?
Both, when the markets are at exorbitant levels where people are highly Risk-seeking despite low odds and not favourable Risk-reward Risk-aversion should be the prudent move, Buffett was sitting in Billions in cash while others were yelling at him "Swing you bum" and " Warren has lost it" to invest, without investing when the world was going crazy. When the tide turned and people were highly Risk- averse despite knowing valuations were very attractive Buffett turned Risk-Seeking.
I wish to remind you of the famous adage of Warren Buffett which summarizes it all
"Be greedy when others are fearful and fearful when others are greedy"
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