Photo by wang binghua on Unsplash

Of Black Swans and Contingency Plans

An internet search for April 17, 2007 at reveals that nothing happened. Certainly, nothing as significant as a Black Swan event. Or did it? A Black Swan is an impossible to predict event that had a massive impact. Impossible because it had never happened (so it seems), and yet self-styled experts will invent explanations.

However, something did happen — the publication of The Black Swan: The Impact of the Highly Improbable, by Nassim Nicholas Taleb. One year later, Black Swan events and Taleb’s book became the talk of investment strategy committee meetings all over the world. Mortgage-backed securities markets had collapsed, and this triggered an international crash in real estate, equities, commodities, low-quality debt, and a deep global recession.

The common wisdom was that there was nowhere to hide, every asset class became highly correlated, and they all lost significant value. While hand wringing became a sport, advisors practicing True Wealth Management had anticipated the possibility of this event. They had also invested clients in truly non-correlated assets and dusted off their contingency plans. If a strategic change was needed, it was based on the investor’s Funding Status, an appraisal of their lifestyle values, and cash flow objectives.

The contingency plans were labeled the Ideal Scenario and the Acceptable Plan. Each analysis integrated different saving, spending, lifestyle what-ifs, and risk exposure options; all memorialized in the investor’s Facts and Values Matrix. This is critical, when the possibility of a Black Swan event is discussed before it happens, implementing a contingency plan becomes routine.

In contrast, the same internet search for February 22, 1980 reveals something happened — a Black Swan event in Lake Placid. With one second remaining in the first period of the semi-final game between the USA and Soviet hockey teams, American Mark Johnson tied the game at 2–2. The Soviet goaltender was Vladislav Tretiak, the best in the world, playing for the best team in the world, ever.

The Russian coach, Viktor Tikhonov, did not have a contingency plan and did what any traditional investment advisor would do: replace the underperforming player. Yet, there is one big difference, Tretiak was still the best, but the funds that went from champs to chumps were never best. They were only doing what they were hired to do: avoid the reality of efficient markets.

Another internet search, this time for March 16, 2020, reveals that the Dow Jones Industrials set a record for points lost (3000) as the Wuhan virus became a global threat. The week before, as markets were reeling, Poetic Justice Capital’s advisors wrote to every client, “We anticipated this. We did not predict it because we don’t make predictions. This market was included in our random simulations. This is central to the accounts we manage for you.” Our goaltender was doing marvelously.

Just as relevant, extreme markets also soar to the upside. In a bell curve distribution of returns (which is true for stocks — not bonds) they happen with nearly equal regularity. The summer of 2020 was a prime example, and the advisors at Poetic Justice Capital monitored their clients Funding Status during market surges as well.

Despite the headlines, confidence is the norm, not chaos.



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Mark Shupe

Mark Shupe

Mark Shupe writes about economic and political freedom.