EconomicReason

Two years ago, nobody, with the exception of some cranks, saw the financial market crisis approaching. However, with the wisdom of hindsight, it is obvious that two years ago, the outcome had already been baked into the cake – bad loans had been granted, housing prices had climbed to unsustainable levels, and the bursting of the bubble was just a question of time. A critical mind could have been able to read the signs on the wall. A few critical minds actually did read the signs and became rich and famous.

We are currently in uncharted territory concerning the consequences of the huge monetary and fiscal stimuli applied to counter the financial crisis and the economic downturn. Consequently, we are confronted with an elevated potential for surprises and black swans. However, nothing has been learnt from the abject failure to predict the financial market crisis. Although some analysts may indeed be concerned about “extreme” outcomes (2-3 sigma events), the true black swan events (4+ sigma events) are probably not given enough consideration, and hedges against them are probably underpriced by financial markets.

There are, by definition, no black swan “seers” – a black swan is, by definition, unexpected. Therefore, don’t rely on the cranks-turned-celebrities who warned of the financial market crisis to warn you of the next black swan, because the signs on the wall will be written in a different language. Those few who were able to read these signs two years ago won’t be able to read them next time, and those who warned of the crisis, but were right only by chance, won’t be able to read them either. It will be different cranks and different lucky analysts who will turn out right next time.