April 12, 2019

Hedging Human Risk

People invest in their job, their careers, their businesses, whatever it takes to meet the costs of survival while at the same time most invest in their passions as well. These passions are familiar and include relationships, children, sports, cooking, music and a host of hobbies that reflect different outcomes to our different social moods but all exist for the same purpose, to hedge our risks. The point is our lives are the constant management of what we’ve chosen to personally organically invest in so why shouldn’t our financial based investments be managed the same way? Who says they aren’t?

The Beta Factor
For those familiar with the term Beta*, it is basically a measure of how a company’s stock in the S&P 500 Index will trade against the S&P 500 Index as a whole. Simply put, beta measures the expected volatility of a given stock in comparison to its index. In the realm of the human condition we sometimes measure volatility as unruliness, and I see this in part stemming from the tremendous uncertainty we face in our lives. Granted even with the mitigating effects of wealth there is a lot we can’t control in spite of the intellectual army of motivators that tells us differently. I bring this up because from a standpoint of uncertainty the markets are in the same proximity to solutions. In short, we’re all being beta tested. But beta in my world also refers to risk and where risk can be measured, in our lives as in the markets, the outcome can be better visualized, if not reached with greater, probability. This is not to suggest that beta alone predicts the future, only to say that beta influences our social mood which in my opinion is a much better measure of whatever the future holds. Our human asset allocation defines our aggregate social mood and in turn our markets respond.

The Financial Factor
So, our jobs may present a degree of risk that our love of, say, sports, helps to relieve, but one person may view sports as an unsafe space and prefers to couch binge-watch videos. In investment management the challenge is exactly the same, some investments, such as Tesla (TSLA) has influenced many a social mood, but so has Apple (AAPL). Which do you think is a safer investment? In choosing the proper investment once can consider putting more into one over the other and thereby affecting the combined risk. The basis for investing and living this way, is in my opinion, the challenge of managing uncertainty.

The Mood Factor
In his writings on socioeconomics, Robert Prechter of Elliot Wave fame, long ago challenged the conventional wisdom of evaluating the markets from past data. Instead of the obvious lapses in predictive accuracy, Socionomics** focused, and still does, instead on the cultural and social environment and it’s influence on the overall social mood. A perfect example was the introduction of the cellphone, but so to was the introduction of the mini skirt. And in each of these instances there is much to invest in, through time and money, with the outcome filling the same void, namely a more profitable (fulfilling) future. It is for this reason that I approach research and analysis from the standpoint that not even your friendly neighborhood algorithm can predict the future of the stock market with any semblance of accuracy without consideration of understanding the current social mood. This is AI’s biggest hurdle.

The Interesting Factor
Of the interesting factors that fuel our social moods which in turn impact our markets and the world around us is the presence of a virtual tsunami of emotion that consumes so many of us. Much of it technology driven much of it also permeates our media, our institutions and our lives. But as with most tsunamis, they create more false and negative outcomes. Because of this tide of distraction our industry is slow to distinguish itself in the 21st century invitations to Socionomic research and Thematic analysis. In fact, I see the problem with almost all financial, technological and economic predictions is that they are based upon the linear extrapolation of past trends into the future. Some might say present trend quantification gives tech an edge, I say, now, is already the past.

The importance of managing the investments and thereby the expectations of clients and participants is crucial in learning what the catalysts of those expectations are. I believe that understanding how humans, starting with myself, hedge uncertainty (risk) is the key to more probable predictions of outcome. Dependence on hindsight and causality can be like a game of telephone, and we know how that works out.