In Towers Watson’s Extreme risks 2013 rankings, resource scarcity (which includes food, water and energy crises) reached the lead position for the first time since the inception of the ranking, which categorises rare events that would have a high impact on global growth if they occurred.
“We believe the consideration of extreme risks can be useful in helping to design more robust investment portfolios and more robust risk management processes,” Towers Watsons Thinking Ahead group head Tim Hodgson said.
“This illustrates the challenge facing institutional investors, of how they should actually adapt to changing assessments of extreme risks.”
The report noted that with resource scarcity ranking number one, investors should look at finding securities that provide exposure to resource in shortage or beneficiaries of substitutions.
“We would suggest time be spent on ‘pre-mortems’, which are about trying to determine in advance what could, colloquially, ‘kill you’ – that is, permanently impair an investor’s mission,” Mr Hodgson said.
Stagnation and global temperature change took the other top spots in the ranking, with depression following behind at position four.
Towers Watson recommends investors spend time identifying which extreme risks matter and which can be ignored, as well as diversifying portfolios across as many return drivers as possible.
“We believe that being adept at pre-mortems means being a better risk manager and being able to react flexibly in the event of an extreme event happening, particularly as the event is unlikely to evolve precisely as predicted,” Mr Hodgson said.
“Consequently, the obvious application of extreme risk thinking is in stress testing or scenario planning, but it is also constructive to consider whether the thinking can be incorporated within the process for managing an investment institution’s balance sheet.”
