Lions, Tigers and Bears...and Black Swans?

I recently finished reading a book titled "Fooled by Randomness" by Professor Nassim Taleb. Taleb teaches Risk Engineering at NYU and is a former trader. He's a smart guy by any measure.

Taleb has spent most of his adult-life analyzing risk, learning to avoid risk and learning to profit from extraordinary circumstances. In finance they call these events "Black Swans;" the rare combination of a set of extraordinary events unfolding in the perfect order to create massive destruction to financial markets, models and financial plans, even by the most astute investor. For my friends in Western Pennsylvania, think of "Albino deer" or "Pittsburgh Pirates winning a pennant" and you'll understand how rare these occurences happen.

In short, Taleb also has been able to provide some evidence that we humans do a lousy job learning from the past, although we're more than capable of looking backwards after an event and criticizing the participants. If you have any doubt, simply listen to any call in sports show that takes calls from Monday morning quarterbacks analyzing what went wrong. They seldom offer a "how to make it better" solution, though.

Looking around and reading a recent letter addressed to President Obama from Taleb, I think it's time to recognize the Black Swan that might be in the room, cleverly disguised as indebtedness. In his letter, Taleb correctly points out that debt leaves little, if any, room for mistakes even in the best circumstances. Quoting the Roman proverb, "happy is he who owes nothing," I believe that the recent actions taken by all of our legislators have done nothing to stop the Black Swan from having offspring.

When you consider the fact that so much of our world is interdependent upon a million other fragments of society, the ability to identify potential hazards and trickle effects becomes nearly impossible to measure. (Measuring is what I like to do, by the way.) But how can one measure the impact of adding $9 trillion to the ever-expanding debt, which will exceed $20 trillion in ten years or less. How can adding debt to an already precarious position benefit anyone in the long run?

Taleb also correctly points out that many of the 'experts' are the same folks that created models that got us into the current (and most of the past) messes we are in today. Relying upon them to help solve the problem is merely a result of their own arrogance. Guess what arrogance leads to - more black swan events. Arrogance blinds us to our own predisposed prejudices, biases and flaws. Arrogance leads to group-think and herd mentality. Arrogance will lead us off of a cliff.

Cash for clunkers rewarded folks who bought vehicles that got lousy gas mileage. The bank bailouts rewarded Wall Street greed. Mortgage bailouts rewarded folks that bought too much house and speculated that prices would always go up. Auto bailouts rewarded lousy business models. Imagine rewarding your kids with a new car after they crashed the old one because they were drunk driving, or continuing to give your kids an allowance after they spent their savings on pot. You would never do that, would you? So why are we rewarding arrogant, risky behavior now? Because the 'experts' told us too, that's why.

In essence, we are rewarding poor judgement time and again and funding it from the tax payers who continue to play by the rules. Rewarding poor behavior is never a good option, but financing it with long term debt is an even worse solution.

FYI, following simply supply and demand mentality, please recognize that the cash for clunkers is going to hurt the poor. It always hurts the poor, despite our elected officials best intent. If we remove clunkers from the car lots, the supply of used cars will go down. The only folks that cashed in on the program were folks who could afford to buy a new vehicle, right? Of course. The clunkers have to be scrapped, but the number of people demanding them (college students, workers making minimum wage, single parents, etc.) hasn't gone down. Voila! More demand than supplies equals higher prices. Nice.

Urge your congress person to STOP funding risky behavior with your money. Oh, and leave a comment or two if you don't mind. Writing this stuff keeps me up at night.