What Must Be True: Strategic Thinking for Managing Risk

Roger Martin, former Dean of the Rotman School, has written a fascinating and insightful article about risk management, emphasizing that a robust strategic process is the only effective way to approach it. Martin argues that, in most cases, risk management conducted by corporate boards often amounts to little more than box-ticking to comply with the Sarbanes-Oxley Act (S-OX) Section 404. This requirement, enacted after scandals like Enron and WorldCom, has become a lucrative exercise for consulting firms but provides little real value to management or investors. Instead of addressing critical risks, these efforts often generate exhaustive lists of potential risks (as seen in typical 10-K filings), which serve as "safe harbor" statements for management rather than actionable insights. A more effective way to approach risk management is by applying the Rumsfeld Risk Matrix (as illustrated in the accompanying graphic). This matrix divides risks into four quadrants: 1.Known Knowns – Risks we are aware of and understand well enough to measure and manage. 2.Known Unknowns – Risks we recognize but do not fully understand. 3.Unknown Knowns – Risks we are unconsciously aware of but fail to identify as risks. 4.Unknown Unknowns – Risks we are entirely unaware of. The ultimate goal of risk management is to increase awareness, turning unknowns into knowns, and improving precision by addressing uncertainties. This involves identifying key risks that are not fully understood, assessing their material impact and likelihood, and investing in understanding them better. It also requires implementing systems to monitor risks that might not be obvious and to uncover entirely new risks. So how is this achieved? The answer lies in a strong strategic process. A well-designed strategy explicitly considers what must be true (WWHTBT) for success and potential derailment, addressing factors such as industry dynamics, customer behavior, organizational capabilities, competitor actions, vendor dependencies, and technological advancements. By conducting thorough internal (IFE) and external (EFE) factor evaluations, along with a comprehensive SWOT analysis, organizations can identify key risk factors, enhance awareness, and improve their ability to detect unknown risks early. This article offers valuable insights and is highly recommended for anyone interested in strategic risk management. (text revised by a LLM) https://rogermartin.medium.com/risk-management-strategy-59869afd3558

- Pedro

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How Games Shaped Probability, Strategy, and Economics

An excellent Economist’s Podcast that features Kelly Clancy—a neuroscientist, physicist, and author of Playing With Reality—discussing the profound impact of games on our lives and societal dynamics. Clancy emphasizes that games are a powerful form of learning, shaping how we think and interact with the world. Games like Chess, Go, Dice, and Cards introduced humanity to the concept of uncertainty, paving the way for probability theory (via Pascal and Fermat’s correspondence) and, subsequently, modern statistics. The episode also highlights the critical role of war games, such as Chess and Go, which evolved into more complex systems like Kriegsspiel. The latter was instrumental in training military officers and predicting battlefield outcomes, particularly during World War II. Clancy then connects this history to Game Theory, one of the most significant developments in economics, pioneered by John von Neumann. Game Theory has informed concepts like nuclear deterrence and continues to influence modern strategic thinking. However, it’s essential to complement it with insights from behavioral economics to understand human decision-making fully. The takeaway? Games are not just entertainment; they’re essential tools for education and skill-building. They can influence our behavior, shape our knowledge, and enhance problem-solving abilities. For instance, Miegakure (https://miegakure.com/) challenges players to solve problems in four dimensions—a fascinating way to expand your cognitive boundaries. All of this in just 38 minutes (at normal speed)—a fantastic return on your time! (revised by a LLM) The surprising ways in which games have changed the world—an interview with Kelly Clancy https://www.economist.com/podcasts/2024/11/27/the-surprising-ways-in-which-games-have-changed-the-world-an-interview-with-kelly-clancy

- Pedro

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10 Trends to Watch in 2025: Insights from Tom Standage

10 Trends to Watch in 2025, Inspired by Tom Standage’s Insights 1-America First Redux Geopolitical shifts will unfold as the U.S. doubles down on its "America First" policy. 2-A Call for Change Macro-political transformations are imminent, driven by demands for reform in nearly every major election of 2024. 3-Heightened Instability in Europe and the Middle East A transactional approach from the new U.S. administration could exacerbate tensions in these regions. 4-The Tariff Tsunami Expect more tariffs, with ripple effects on global trade and economic growth. 5-The Clean-Tech Boom China's advancements in clean technology could revolutionize the energy sector worldwide. 6-Inflation and Fiscal Tightening Most economies are gearing up for stricter fiscal policies, raising questions about growth and voter approval. 7-The Politics of Aging Could age limits for political leaders become a global trend? 8-AI Revolution Agentic AI systems are poised to become the most transformative innovation since the internet. 9-Tourism Backlash The pushback against overtourism will reshape the travel industry. 10-Expect the Unexpected From global pandemics to solar storms, the world must brace for unpredictable disruptions. Stay tuned for a deeper dive into each of these trends in the near future. (text revised by a LLM) Tom Standage’s ten trends to watch in 2025 https://www.economist.com/the-world-ahead/2024/11/18/tom-standages-ten-trends-to-watch-in-2025 From The Economist

- Pedro

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The world ahead 2025 - Economist

The world ahead 2025 from the Economist. A must read, more on it in the near future. https://www.economist.com/topics/the-world-ahead-2025

- Pedro

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Visualizing Strategy: Building Blocks in Focus

A picture is worth a thousand words, and this visualization is a testament to that. It’s a great and simple representation of the strategy building blocks. In my professional life, I apply almost ipsis verbis what is depicted in this pyramid, even using the same nomenclature. (text revised by a LLM)

- Pedro

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Dynamic Pricing Silver Bullet?

https://www.ibbaka.com/blog/2019/11/7/dynamic-pricing-is-a-two-edged-sword

Fully agree with this great post! When you only have (want to sell) a hammer everything looks like a nail. Every solution has its value and should be applied accordingly and we should avoid to go with the latest trend flow and thoroughly assess the pros & cons and look at the value fundamentals. "...The conflation of willingness to pay and differentiated value has to come to an end. Willingness to pay is an outcome of the creation, communication and delivery of differentiated value. It is an outcome and not a driver. Pretending that you understand value because you can estimate willingness to pay is wrong headed. ..."

O-Ring Theory of Development and its importance on a company organization, HR, output & wages

Came across this economic theory by chance (on the Marginal Revolution Blog - Tyler Cowen and Alex Tabarrok) and it was surprisingly insightful, simple and helped to structure my line of thought on the areas of: Management, Organization setup and the importance of Areas of Excellence within an organization. 

Additionally, it also explains the pay gap between excellent (A-players) and very good & below associates (B/C/D - Players).

I strongly advise you to see the video of 19 minutes that provides a great overview of this theory (so you can also understand the math).

So the O-Ring Theory of Development (Michael Kremer, 1993) is underpinned by the following assumptions:

1. Production (broad sense) depends on completing a number of tasks;
2. Failure or quality curtailment of any task reduces the entire product (weakest link problem);
3. Quantity cannot substitute quality (2 mediocre Finance Directors will not do a better job than a great Finance Director)

If you take a broad approach to this production function you have a company or even an entire economy.

Main practical deliverables of such theory:

• Quality matching - you should put your high quality workers together (preferentially allocated to the company areas of excellence, based on its value chain) and the other workers (B/C) also together, instead of mixing them up, as the results will be significantly better;
• Higher quality it will imply better results (i.e. better outputs)
• Higher outputs/results will result in better wages (macroeconomics 101) for any organization & that the function Output/Wages is not linear

• The wage distribution is severely skewed to the right and the talent distribution follows a normal distribution (that is why small incremental talent on the top decile can have a significant impact on the associates wages);

• Workers performing in high-skill firms will have higher wages than low-skill firms (look at the wage gap of tech/pharma companies compared with other industries);
• Talent attracts Talent - High quality worker will want to work with other of the same standards (virtuous cycle)
• There is an tremendous incentive to invest in skills/quality of the workers (company and and associates)
• This theory has several "equilibria", meaning that if your are surrounded by high quality workers it pays-off to invest in becoming one, but if you are within a non-high quality organization it does not pay-off to invest, as your higher potential output will be severely curtailed by the others;
• Capital will be allocated to high quality organizations or within the organization to the areas with the highest quality potential - so if you are investing within your organization make sure you have your A-team on that area.

You can think your organization is performing several activities throughout your value chain, thus applying this theory you can identify bottlenecks, linkages and complementarities and don't forget where are your areas of excellence based on the Value Proposition so you can have your A-players on it!

Ideas on solving the Pricing Puzzle - Based on a BCG article

Excellent BCG article on Pricing based on a Wealth management example, although in my opinion applicable to any industry.

What are my main conclusions:

1. Pricing (in all its dimensions) is a key component of a company strategy, not just a tactic lever one should/could use;
2. The top quartile pricing performers have significant better overall results
3. Smart pricing has 4 main components:
• Proper client segmentation (avoid broad-based segmentation on external characteristics easy to define, but on customer behavior and required service levels) ;
• Have a clear value proposition for each segment;
• Optimize the price structure for each segment
• Constantly reassess the above, making it a process and not a 1 time yearly event
• have a clear pricing strategy;
• favor quality over quantity - start small, test, pivot (if needed) and only then deploy. Each company, division, product has its own story;
• Obtain sponsorship within the organization and buy-in (quick wins are important)
• Pricing is a core strategic competence not just a tactic one within marketing
• Embrace Data Analytics - target pricing algorithms, pricing intelligence, etc
4. The Exhibit 6. is self-explanatory and is a great infographic over the key roles and responsibilities of any Pricing team.

Solving the Pricing Puzzle (aWealth management example)

James E. Schrager on GE and “the end of history”

Review: CFA Program Curriculum 2017 Level II, Volumes 1 - 6

CFA Program Curriculum 2017 Level II, Volumes 1 - 6 by CFA Institute
My rating: 4 of 5 stars

Excellent curriculum books on the subjects/topics under study

Ethical & Professional Standards,
Quantitative Methods
Economics
Financial Reporting and Analysis
Corporate Finance
Equity
Fixed Income Derivatives
Alternative Investments
Portfolio Management

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Review: Thinking Strategically

Thinking Strategically by Avinash K. Dixit
My rating: 3 of 5 stars

Good introduction to the game theory topic (my rating would be 3.5)

You can clearly date the book based on the examples given, but nonetheless worthwhile Reading. Sometimes the cases are too simple and sometimes, in a couple of exemples, the rationale is not presented clearly that obliges the reader to go back and forth in the books pages to grasp it.

For all interested in the subject (that should be at least every economist, financier or manager), opens the door to this important topic that will allow you to make better and more informed strategic or even tactic decisions.

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