“Nothing in the world can one imagine beforehand, not the least thing, everything is made up of so many unique particulars that cannot be foreseen.”
Commentary & Analysis
Friday Ramble: Do I believe in cycles?
I was asked if I believe in the cycle stuff: The cycles of war, business cycles, investment cycles, etc. My answer was: The more and more I look and study this world and investment stuff—the more and more I believe in the cycle stuff. The seeming irrationality of investors and world “leaders” suggests to me there are a lot more forces operating on human psyche than our Western-educated cause and effect minds can comprehend.
When I talk about technical analysis, to people such as my father in law, they usually consider it some type of black magic, because to them it is all about the fundamentals. Give me hard reasons. In short, people use fundamentals to forecast the future. The problem: What is fundamental today can be farcical tomorrow.
Who in 1913 would have forecasted the horrors ahead starting in 1914?
[I am reading Christopher Clark’s brilliant book, “The Sleepwalkers: How Europe went to War in 1914.” And I recently finished “1913: The year before the storm,” by Florian Illies; interesting anecdotes set chronologically during 1913. One comes away thinking just how wonderful life was in Europe before the folly of war; and asking just how the politicos could screw it up so royally. If you want a good recent rumination of some growing dangers, I suggest today’s article by Phillip Stephens, columnist for the Financial Times, “How the best of times is making way for the worst.”]
I often pontificate about global macro events and what it will mean for a specific investment class. Sometimes I am right about how these events play out. But even then, my investment idea may end up moving in exactly the opposite direction I anticipated. And of course, the better outcome is when my event forecasting proves horribly wrong, but the investment idea attached (cause and effect of course) proves perfectly right.
So how much confidence should I really have in this process of relying on global macro thematics to predict how investments will react? I would submit any confidence level should be very far away from 100%.
I thought this summary from Robert Prechter’s book, “The Wave Principal of Human Social Behavior,” was an excellent criticism of macroeconomic fundamental analysis:
“Economists devise today’s macroeconomic formulations under the presumption that people act like billiard balls following physical laws. Unlike physics formulae, though, the concepts represented by the variables in these equations are often imprecise. Many that are considered precise are not because they ignore the varying mental states of people. Often, the equations do not relate very well to the real world.
“…The biggest flaw is macroeconomic formulations is their underlying assumption that the ‘billiard ball’ has a fixed mental state. However, the mental states of people vary, so their ‘reaction’ to a ‘cause’ will be different at different times.”
[Keep in mind this is Keynesian stuff Mr. Prechter is talking about. The Austrian School of Economics advanced by von Mises makes it very clear equations have little value in the field of economics; it is about human action and subjective valuation; thus, the namesake for von Mises’ masterpiece--“Human Action.”]
This is why when I am asked on occasion: Are you sure X will fall or Y will rally? My short answer is this: I am sure about nothing in the future. What I am most sure about, because I hate to exercise and love to eat and drink, is that I will most likely be as fat tomorrow as I am today. But God-forbid I contract some horrible disease; it will throw me off my routine and I might lose weight. So, what I tend to be most certain about is uncertain. I am forecasting myself enjoying a single-malt today—10-year Glenmorangie—once the market closes. Cheers if I get there.
In the investment world, the only thing we can be somewhat sure about is how much risk we choose to take to bet on a particular idea. [Granted this doesn’t ensure our risk will be limited: Can you say Lehman Brothers, MF Global, and Peregrine Futures? Incidentally, all of which I have had some working relationship in the past. Now there is an interesting correlation.]
My growing lack of faith in forecasting is why I have developed a particularly strong B/S filter when it comes to all those wizards out there who are able to talk about this stuff with such certainty; it is equivalent of the sound of fingernails against a blackboard for me. Here is what I mean…
If you listen to one of the legendary investor types (the real deals) on television, or at a conference, where he is asked to express his market view, you will notice he likely stutters and hesitates and clarifies and questions his own views and sites other plausible scenarios as reasons why he might be wrong. In comparison, the charlatan always appears certain about his market views.
I think the legendary investor type understands he cannot forecast. This is not to say he doesn’t have a tried and true system (edge) he confidently trades. But it is to say he knows, in the end, this game of investing and trading is nothing more than a simple probability bet whether you are using fundamentals or technicals or a combination of the two. And if the legendary type sees it this way, why do we think those who believe in the cyclical nature of collective human behavior to support investment ideas are nuts?
“Our idea is to avoid interference with things we don’t understand. Well, some people are prone to the opposite. The fragilista belongs to that category of persons who are usually in suit and tie, often on Friday’s: he faces your jokes with icy solemnity, and tends to develop back problems early in life from sitting at a desk, riding airplanes, and studying newspapers. He is often involved in a strange ritual, something commonly called “a meeting.” Now, in addition to these traits, he defaults to thinking that what he doesn’t see is not there, or what he does not understand does not exist. At the core, he tends to mistake the unknown for the nonexistent.
“… Because of such delusion, he is what is called a naïve rationalist, a rationalizer, or sometimes just a rationalist, in the sense that he believes that the reasons behind things are automatically accessible to him.”
Nassim Taleb, Antifragile
So, do I believe collective human action often is expressed in a cyclical fashion, which represents repeating patterns? Yes. I would add most of these cycles are non-linear in nature (chaos if you will), but cyclical nonetheless.
I am working on Part II of this Friday ramble and will send to you next week to help clarify my growing cycle view of markets and events with some specific examples.
Black Swan Capital