One day, the Devil was bored and decided to ascend to Earth for some fun, setting himself up as Professor Woland, the investment guru. His disciples were almost invariably the most successful of all managers following whichever index they chose. Occasionally they blew up, but those unfortunates were soon forgotten.
It was only after several years that his secret came out. Once a year, he would invite his disciples to a game of Russian roulette using a 10-chamber revolver. Nine times out of 10 they survived, and were rewarded with another year of exceptional performance. One time out of 10 there was a complete blowup, personally as well as professionally.
The point of the parable is that it isn't hard to boost performance by taking on risks that are rare, but devastating when they do occur. Woland's disciples had a 73% chance of a three-year bull run, and a 59% chance of five years, before the odds finally got them. It's why one wiser than usual observer commented of a particular star hedge fund operator: 'If you gave me a list of top performing funds I'd expect him to be on it. If you gave me a list of funds most likely to blow up I'd expect him to be on that, too.' There is also the perverse consequence that at any given time the most successful performer is likely to be the worst bet - the one with the greatest amount of hidden 'hope-it-won't-hit-me-this-year' risk.
This doesn't just apply to the investment markets. It is common elsewhere - and is the real story of many cost-cutting programmes. We cut costs and see a benefit immediately, but don't usually account for the increased risk. The most egregious example is the BP Texas City refinery in 2005. Years of reduced maintenance and repairs resulted in a literal - not metaphorical - blowup, an explosion that killed 15 and injured more than 170.
Ultimately, it's just an application of the 'no free lunch' principle. When next you do something to boost returns, stop and think what extra risks you are taking on.
Alastair Dryburgh is chief contrarian at Akenhurst Consultants and author of Everything You Know About Business is Wrong (Headline, £13.99). More at www.alastairdryburgh.com