Posted By: Admin
All swans are white in colour, we know that for millennia this has been the fact including in fairy tales and stories that we have grown up. No one has seen a swan in any other colour. So like Henry Ford famously said, you can have any colour as long as it is black?, we have come to linearly believe that Swans will always be white. However occasionally we do see a swan that is a not white that completely confuses us and puts our best laid plans bare.
In the investment world these are called Black Swan events. Black Swan events are events that come up quite unsuspecting upon us and turn our plans upside down. Take the case of the most recent black swan event that earth has been facing COVID 19, nobody has been spared by its effects, yet this time last year even the best experts could not have predicted that the world will be locked down from anywhere between 3 weeks to 7 months and that millions would be infected or die and trillions of dollars will be destroyed in economic value. Yet that is exactly what has happened. So based on 2018-19’s growth, if you had invested heavily all your monies on your fine dining restaurant with the idea of doing record business in 2020, you would have ended up in a terrible loss.
Nicholas Nissim Taleb about Black Swan “ The idea that In order to make a decision you need to focus on the consequences ( which you know) rather than the probability ( which you can’t know) is the central idea of uncertainty”.
However black swan events are not necessarily always negative, they can also be positive, GPS more known as Global Positioning Systems, which was a military application to guide missiles , was declassified in early 2000 , this revolutionized the electronics Maps industry and paved the way for global companies like UBER, OLA and many other companies that use the GPS tools to great advantage. Nobody could have seen this coming in advance ? this simple action has spawned a huge global industry worth Trillions of dollars.. as is many things relating to the internet.
How does all this help me in my investments ?
As investors, we are always trying to make decisions based on the Known Knowns and the Known Unknowns. The only way to overcome black swan events is to keep a buffer for Unknown Unknowns. To say plainly, if you see a clear path to a great bull run, even in such a scenario keep some of your investments in Non equity assets, just so that your portfolio does not get totally impacted, in case of a black swan event.
Investing today is a complex activity with a very thin line differentiating events that have a global impact and those that have local impact. So the only way one can try and not be impacted by Black swan events is to diversify one’s investments across a wide cross section of non correlated assets so that even if an event ends up impacting one investment, the other performs to make up. Example, in late march due to the Covid induced lockdown, the equity markets reacted badly with almost 35% fall, however on the contrary Gold prices had gone up by 35% during that time, so an investor who had assets in both would have been better off than one who is entirely only in equity portfolio.
Diversification and Asset Allocation are the only tools that can help investors continue to make money whether the swan is Black or white.