This note was originally published at 8am on March 06, 2012. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.
“The human mind does not deal well with non-events.”
When you are me, analytical life can get lonely. Every single major Growth Slowing call I have made since 2007 has been met with doubt, denial, and disdain. But growth still slowed.
Whether I’m out for a run, on a plane, or in the shower, I’m constantly trying to re-think better ways to communicate our process. What is it that we do? How do we model our assumptions? What are the risk management signals?
Ultimately, I’ve come to the conclusion that I can always do better, but I can’t make it any more simple than stating it each and every day before it occurs. I’ll call this Risk Managing Non-Events.
Back to the Global Macro Grind…
What is a Non-Event? You can ask Dan Kahneman for his definition – mine is that Non-Events are constantly occurring and tipping the slopes and probabilities of events becoming obvious.
Got tipping points? Consider the following Growth Slowing Signals in our globally interconnected Macro Model from the last month:
- Basic Materials Stocks (XLB) stopped going up on February 3rd, 2011 (now down -3.1% from YTD top)
- India’s Stock Market (INP) stopped going up on February 21st, 2011 (now down -6.8% from YTD top)
- Small Cap Stocks (IWM) stopped going up on February 23rd, 2011 (now down -3.1% from YTD top)
Those are obviously just leading indicators from big, liquid, stock markets. All the while, Copper, 10-year US Treasury yields, and Global Yield Spreads continued to flag what they started flagging immediately after the Ben Bernanke’s January 25thPolicy To Inflate to 2014 – Growth Expectations started falling as Inflation Expectations started spiking.
Overlay immediate-term leading indicators (real-time market prices, yields, and spreads) with our long-term Fundamental Research View that:
A) Debt (when crossing 90% of GDP) structurally impairs long-term growth (Reinhart & Rogoff data supports this view)
B) Inflation, from a certain time/price level, slows real (inflation adjusted) growth
All the while, have a Keynesian economist promise you that they can centrally plan just the right amount of “inflation” for just the right amount of employment and economic growth.
And you have yourself an “event” (versus consensus expectations) in the making…
Non-events are the proverbial grains of sand falling on the pyramid of risk that is our globally interconnected Macro Model. One by one, price by price, data point by data point, they fall onto the sand-pile of expectations.
Then, one day… week… or month, they become “events.”
If the deep simplicity of Chaos Theory is this obvious, how do we almighty chosen ones from the Ivy League routinely get this wrong?
“A general limitation of the human mind is its imperfect ability to reconstruct past states of knowledge, or beliefs, that have changed.” –Daniel Kahneman (Thinking, Fast and Slow – page 202)
That’s why we have to humble ourselves and Embrace Uncertainty. The idea that going to Yale immunizes my mind from being human under pressure is as ridiculous as Bernanke not seeing inflation at $120 oil.
There may have been a day in this business, without internet connections or Twitter, that you could have legitimately had an information edge on a company and its implied valuation. A lot has changed since then. Today, my 4-year old son can pull up cash flow multiples with two clicks on Yahoo finance (provided that I give him the ticker!).
Risk Managing Non-Events is the next frontier of finance. Yes, it’s a lot harder to do than proclaiming our mystery of faith on the “right” earnings “multiple” for the SP500. That’s why we do it every morning. Risk never sleeps.
My immediate-term support and resistance ranges for Gold, Oil (Brent), US Dollar Index, and the SP500 are now $1691-1735, $121.12-123.98, $79.03-79.74, and 1356-1366, respectively.
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer