A Moving Precipice, Creator of Black Swans, and Bubble Popper

A loosely defined phenomena which we are seeing pervade all manner of life is something I am calling, moving precipices.  This phenomenon is pervading nearly every aspect of our lives –  typically media, it now transcends society through politics, disease, terror, technology, and investing.  What I am describing is, in our globalized world, is not unlike what was described in “The Tipping Point” by Malcolm Gladwell; that singular moment when an idea, trend, or social behavior reaches a given point, and simply explodes.

The point of contention is, however, the acceleration of the ever so opaque and difficult to predict moment.  Take Google for example, a company that, by virtue of what it was, was virtually at a ‘tipping point’ at its’ inception; achieving a market capitalization of over $150 billion within a decade.  I have no doubt in my mind that due to the ever-increasing interconnectedness of things, coupled with innovation, that in our lives we will see companies that grow from venture-stage to over $200 billion market-caps within 5 years.  Again, the precipices are moving closer and, their effects are multiplying exponentially.

Evidence of this has been seen in the medical arena, take swine flu for example.  Now you can take the other side of the argument, saying that it was overblown by the media and a non-event; but that too is the point.  The rapidity of the spread of sickness has certainly accelerated with innovation in travel, and continues to accelerate as more and more of the world becomes industrialized, but the hysteria that accompanies a potential, say pandemic, now spreads at the speed of sound.  From a business perspective, it is just as important to be able to effectively position yourself for the hysteria as much as the reality; many winners were crowned in the stock market if a company was perceived to have a ‘cure’ or viable treatment.  We saw this recently with companies that had ‘swine flu’ treatments, or years ago if you happened to have a stockpile of “Cipro” during the anthrax scare.  The point is, even in medicine, we are seeing a sort of ‘critical mass’ reached ever earlier in the life-cycle of a particular trend.

This week, for example, I believe we may have seen the pronounced effect on social networking on Andy Reid of the Philadelphia Eagles.  Laugh if you like, but think of years passed when Coach Reid was virtually oblivious to calls for his head (and his job) whilst making questionable coaching decisions.  Simply put, today the shear onslaught of backlash that is possible from the twitter’s and Facebook’s of the world (not to forget Word Press) is such that the wave of public opinion is cresting virtually moments after it initially swells.  This week, it took Andy Reid less than 24 hours to completely change his mind about his quarterback and, essentially, the direction of his entire franchise.   Also this week, an Australian boy singlehandedly (and inadvertently) caused Twitter to be hacked by exploiting a tiny bit of coding error – within seconds his maneuver had been exploited, automatic posts began redirecting users to porn sites!!  I remember the days of AOL when it took days for a virus to spread to that number of people.  But, guess what?  Now there are a lot more of us plugged in, and we’re all streaming!

For years we have seen this effect in media, and it has accelerated with every major new innovation in media since the phonograph.  Today, media darlings are crowned almost over night.  It spreads like a virus and does not just pervade music, for example, but also sports, writers/bloggers, and even with popular Twitter pages being made into TV shows.  We live an in ‘Trending Now’ world, and we have to be prepared for it because we have not evolved enough to increase our potential to process this information as fast as the speed of this information can multiply.  What am I saying? Life, much like today’s markets, happens in real-time but it is not necessarily efficient; it can be wrong.  That is perhaps the greatest difficulty navigating this type of environment; knowing when and if to act on information (that may in fact be noise, not information) that occurs in  real-time, and at any moment critical mass can be reached.

We have also seen this phenomenon in politics.  I’m sure we all have a sense of how Obama was the first Presidential candidate to reach the masses with Tweets and social-networking sites, but that’s not it entirely.  Take the Tea Party movement, a viral political movement sweeping the nation because a nation wanted it and, more importantly, it moved it the speed of  sound.  And we wonder why China wants to restrict Google, and limit the flow of information.  They realize that in this day and age that information is a contagious as it ever was; an idea can spread like wildfire and grip a nation in absurdly short periods of time.

How does this relate to finance you might ask?  Does anyone remember My 6th, 2010?  Oh yeah, the flash crash.  Well what I am saying is that this is a direct result of this phenomena.  Do I have evidence? About as much as the anyone (probably more, which is to say none at all), and I think if we had any meaningful volume since May we would’ve had another one.  But, let’s take a step back.  What were talking about here, in essence, is the confluence of three very popular schools of thought that we will call: tipping points, black swans, and bubbles.  As we continue we will delve into all manner of mania, trends, fads, epidemics, pop-culture phenomena, asset bubbles, and identifying those critical moments when an idea or trend catches like wildfire and, as I like to put it, when ‘cancer spontaneously cures itself’ (and disco dies overnight).

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3 Responses to A Moving Precipice, Creator of Black Swans, and Bubble Popper

  1. P.C. Bloom says:

    I’m curious. If the financial markets are moving in real time, and we as investors have to be prepared for a “trending now” world, how do you propose we prepare ourselves? Do you have a specific investment strategy that would enable us to profit from the inefficiencies of the market? Are you proposing that we paddle out in front of the biggest trends and be prepared to fall off the back of the wave before it crashes? How do we do this without getting clobbered? More importantly, how do we do this without speculating?

    I know it’s not very difficult to look at the world today and clearly imagine that Apple is a better company than RIM, but how do you translate that speculative opinion into a conservative investment with a reasonable margin of safety. If we are to gain insight from the “black swan theory”, we would understand that our popular opinions can be wrong just as easily as they can be right no matter what we use to convince ourselves. We all remember “Long Term Capital”.

    So where does that leave us? How do we profit from the theories of “tipping points”, “black swans”, and “bubbles”?

    P.C. Bloom

  2. Andre Zdanow says:

    As a general rule, one doesn’t. Particularly in the case of ‘black swans’ because they are, by definition, elusive shall we say. Certainly in terms of business, and ‘tipping points,’ one can attempt to position themselves favorably for that type of exponential gain/growth, but the odds are not in our favor. Venture Capitalists gobble investments like massive marine baleen mammals, devouring the sea in search of tiny morsels; because they know of the exponential potential, so they weigh the probability of finding them and devour away.

    Alas, there only few individuals who have proven capable of ‘stepping in shit’ twice. Steve Jobs comes to mind; but he’s not the ‘struck by lighting twice’ type but, more likely, he is a lighting bolt. Moving along, the point is is not how might we prepare or predict these types of events but in realizing that by definition they will elude most of us.

    As Taleb has said, 9/11 was a black swan to Americans but, was completely expected to those who planned it. Evidence of the attack did pass through US intelligence, but it was deemed to unlikely, too implausible, to be assigned any credibility. That’s the point. This discussion is a reminder of that old saying ‘that when you consider all other options that whatever remains, no matter how improbable, must be the truth.’

    To the true center of my discussion, from an investing standpoint you can use this information/notion to more selectively target your bets from the perspective of improving your odds. Perhaps the most common occurrence of a ‘tipping point’ is the Momentum Stock. The unfortunate thing is the momentum stock’s hallmark is often the epic fall from glory (see many IBD 100 stocks over the years). These are interesting because these stocks can have all 3 categories, for example: Biotech stock has an epic breakthrough (black swan), the stock price explodes (tipping point), stock reaches proportion (tipping point), stock crumbles do to excessive valuation and overbought condition (bubble burst/black swan).

    How do we learn from that? If you refine the number of potential investment thesis to expect these events, and use what you know about them, you will hopefully you refine (lessen) your number of bets based on the higher probability of achieving success.
    e.g. There is no turning this discussion into a conservative investment with a margin of safety. One conclusion of this discussion could easily be that there is no such thing as a ‘margin of safety,’ not really. The point is to understand where we live in a world where more and more of this type of behavior should be expected, and they we need to be prepared for an ever complicating array of new and exciting risks.

    Andre

  3. Andre Zdanow says:

    To the point about moving precipices; picture a bell curve.

    We do not live in a normal distribution world, we live in a world of fatter (and continually fattening) tails. What does that mean? That in our ‘new-normal’ distribution world, I visualize fatter tails that contain outliers that have probabilities that are as likely as some points that lie within the curve, but carry significantly greater statistical ramifications.

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