Zen And The Art Of Tail Risk Recognition

Has Nassim Nicholas Taleb turned to the spiritual?
Author:
Publish date:
Updated on

If I ever find myself sitting Indian-style in a windswept tent slamming shots of “Genghis Khan’s champagne” with Nassim Taleb (or if he ever unblocks me on Twitter), one of the things I’ll ask him is whether it makes sense to make a chart of “the most underappreciated” tail risks.

There’s something paradoxical about the idea of crowdsourcing a list of “tail risks” because by virtue of being black (or at least “gray”) swan-ish, one wonders how it’s possible for the “crowd” to identify them ahead of time. Sure, a couple of stone-lifting, eccentric geniuses will be loading up on OTM puts (while simultaneously tweet-shaming fellow Metro riders) in anticipation of some cataclysm that came to them in a vision quest, but as for us mere mortals, it doesn’t make any sense to ask us about tail risks because by virtue of not being demigods, we wouldn’t know.

Given that, I’m inclined to feel a bit better about the odds that a sudden uptick in inflation triggers a disorderly unwind of the bond trade by forcing central banks to lean aggressively hawkish with their forward guidance.

As you’re probably aware (and if you’re not, then you’re not paying attention), “bond tantrum” is at the top of everyone’s 2018 “tail risk” list. Specifically, the worry is that if inflation finally shows up, central banks will find themselves woefully behind the curve and that, in turn, will force them to withdraw transparency and thereby revoke the market’s license to co-author the policy script (to paraphrase Deutsche Bank’s Aleksandar Kocic). If the two-way communication loop between policymakers and markets is severed, bond vol. spikes, and then the dominos start to fall on the way to triggering the dreaded VIX ETP rebalance risk and, in the final act, forcing the systematic crowd to deleverage into a falling market.

Ok, so that’s the nightmare scenario and before you go accusing me of being “that guy”, remember that unlike the batshit crazy market cynics I’m sometimes compared to, I’m just the messenger here. So don’t shoot my ass, ok? That is, I’m just telling you what multiple analysts (including JPMorgan’s Marko Kolanovic for those of you who need to attach a “brand name” to it) have posited as the doomsday scenario. I’m not telling you that’s likely to happen.

In fact, it’s you who is telling me that’s likely to happen. Or at least that’s the case if “you” are one of the fund managers who participates in BofAML’s monthly survey (incidentally, the bank’s rates and FX surveys tell a similar story, but it’s Michael Hartnett’s FMS polls that get all the attention). Have a look at the latest iteration of BofAML’s “tail risk evolution” chart:

Screen Shot 2018-01-17 at 1.43.20 PM

The survey period on this was from January 5th to January 11th, which means it captured both the BoJ’s decision to pare 10-25Y JGB purchases and the Bloomberg story which suggested that China may be considering “halting” purchases of U.S. debt. It also captures 10Y yields hitting nine-month highs, Bill Gross calling for a bond (and “men”) bear market, and a period of generalized angst about whether a bond selloff could become acute enough to spill over into equities and derail the longest bull market in 100 years for balanced portfolios by flipping the stock-bond return correlation positive. Oh, and it captures the decent AHE print in December payrolls as well.

That gets me back to the original question posed here at the outset. If everyone knows this is the biggest “tail risk”, is it really a “tail risk”? How many times does the catalyst for an unwind end up even remotely approximating what everyone was worried about headed into said unwind? Not very often. And even if everyone knows what the most important risk is, trying to piece together the series of events that would lead to that risk materializing is well nigh impossible. Here’s how Citi, channeling their inner Hans Christian Andersen, put it last month:

Spotting the specific trigger in time and predicting the magnitude of the cascade of events it sets off in markets is akin to picking out the right little boy in the crowd of onlookers and reading his mind.

Ultimately, I’m not sure what it would say about us, as a group of market participants, if what ends up toppling the castle we’ve all spent a decade constructing in the sky ends up being a risk factor we’ve all been flagging for months. At the very least, that wouldn’t say much about the extent to which we trust our own intuition.

So coming full circle, perhaps the real “most underappreciated tail risk” is indeed “underappreciated”; not readily discernible to those of us who spend our days steeped in the research and staring at our Terminals.

But just because the real “tail risk” eludes the mortal among us doesn’t mean it’s not knowable.

It just means we’re not looking in the right places.

If it is “tail risk” you seek, try trekking through Northern Phoenicia. If you see a man planting olive trees, you have found what you seek.

Screen Shot 2018-01-17 at 1.47.34 PM

Related

Nassim Nicholas Taleb Became The Chiseled Adonis You See Before You Through A Strict Regimen Of Picking Up Rocks And Lying In Bed For Two Years

Have you ever gazed upon classical Greek philosopher Nassim Nicholas Taleb and thought to yourself, "That man has a body from the gods. I could never hope to match him in brains, but what about brawn? If only I could obtain the details of his diet and fitness regimen"? Well, friends, today is your lucky day. Despite still being on his second tour of self-imposed quiet time, Taleb granted several interviews to publications reviewing his new book, "Antifragile: Things That Gain From Disorder," and, naturally, the topic of his physique came up, specifically the various ways he keeps it in such enviable shape. (He also touches on the exercises that led to him having a brain three times the size of the typical astrophysicist, though please note that these should be appreciated but not be attempted by average humans, who could hurt themselves quite badly.)

Nassim Nicholas Taleb's Got Bad News For His Legions Of Soccer Mom Fans

Greek god. Philosopher. Adonis. The only person on earth who has earned the right to have an opinion about anything. All appropriate characterizations of one Nassim Nicholas Taleb, and the way at least three-quarters of all living homo sapiens have described NNT in their conversations with friends and in their diaries. And while his many admirers have surely studied him in great detail in the hopes of one day having the opportunity to unlock his heart or simply bask in his reflected glory for a moment or two, not everyone has a comprehensive list of the things that rev Taleb's engine and, more importantly, that tick him off. Luckily, a recent profile by Chronicle writer Tom Bartlett has produced a near-complete guide to the likes and dislikes of Nassim Nicholas Taleb. Read it, print it out, carry it in your pocket-- but really, consider taking the time to commit it to memory. Your chance may only come along once and you don't want to fuck it up by fumbling around your notes because you can't remember what his thoughts are on "bourgeois bohemian bonus earners" or fruit.

Nassim Taleb Is On His Second Round Of Self-Imposed Quiet Time

Several years back, in response to the news that Ben Bernanke would be reappointed Fed Chairman, Nassim Nicholas Taleb made an announcement that he would be retreating from society. "What I am seeing...is to much for me to bear," Taleb wrote. "I am not blaming Bernanke (he doesn't even know he doesn't understand how things work); it is the Senators appointing him who are totally irresponsible...I need to withdraw as immediately as possible into the Platonic quiet of my library, work on my next book, find solace in science and philosophy, and mull the next step...I will only (briefly) emerge from my hiatus when the publishers force me to do so upon the publication of the paperback edition of The Black Swan. Bye, Nassim." NNT reintroduced himself to the world at some point in 2010 or 2011 but now, apparently, he has once again decided to pick up his black swans and leave, as people getting in touch with him to star in their movie, blurb their book, or pick his large and intimidating brain recently learned. AUTOREPLY (Please ignore this message if you are a personal friend or engaged in an ongoing correspondence). Dear correspondent; I am currently disengaged from the rest of the world (until November 2012). I had to stop replying to emails outside of the strictly personal (friends, family, citizens of Amioun, etc.), except for extremely important/urgent matters. Please note that, except for emergencies & appointments, I reply to mails with an equivalent frequency to that of classical letters. (REQUESTS: Also note that 1) I no longer do media interviews (except those scheduled by publishers), 2) can no longer endorse books, 3) do not participate in documentary films, 4) will not give lectures in Asia, Australia, and other places entailing severe jetlag, etc.) I apologize for the inconvenience. Nassim Taleb Still Has the Most Nassim Taleb Auto-Reply Email Ever [NYO] Earlier: Nassim Taleb Swears He’s Done With This Place, Signs Off In A Huff– Who Should He Take With Him?