Zain Jaffer is the founder and president of Zain Ventures, a family office that invests in real estate and proptech.
If someone had told you in the year 2000 that in just 20 years, a major pandemic was going to sweep the globe, you could talk to your computer as if you were talking to a person or there would be vehicles with autopilot features, you might not have believed them.
We often assume things will turn out the way they always have. As I’ve learned from mathematicians and statisticians like Nassim Nicholas Taleb, author of The Black Swan, people often view the world in bell curve terms. I define “bell-curve thinking” as when we assume the future will turn out as it has always done so in the past.
What is a bell curve? A bell curve refers to a graph with a rounded peak that is tapered at each end. To illustrate this concept, imagine you’re pouring a bucket of sand on the floor and the sand forms a mound. Most of the sand is in the center, or the peak of the mound. The rest trickles off onto the sides, with less and less sand as we move away from the center. The mound resembles a bell, hence the term bell curve. If the pourer doesn’t have steady hands, the peak or bell might have a flat top. If the pourer has very unsteady hands, there might be more than one mound.
The top of the mound (i.e., the mean or average) is where much of our expected events or outcomes occur. If you were a world-class darts player, for example, most of the darts you throw might be in the bullseye and some occasionally off-center. But beginners would likely have darts hit all over.
In the world of investing, bell-curve thinking might lead you to assume that because a 60% stocks, 40% bond allocation in your portfolio worked well in the past, it will carry on as a rule into the future. However, that “rule” might not hold true anymore if the mound (or bell curve) has changed. As a theoretical example (and this is not financial advice), what if an allocation of 40% stocks, 40% bonds, 10% gold and 10% cryptocurrency worked better for you? Again, that is just an example and might not necessarily be the right allocation for you. But the point here is the “rule” that used to work well in the past might have already changed. That “rule” may no longer be true.
As I learned from Taleb, it is not the bell curve events that wipe us out. Often, it is the sand that has trickled a few feet away from the mound that we call “outliers” or “black swan” events. The term “black swan” stems from the idea that people used to assume all swans are white, but just because you haven’t seen a black swan doesn’t mean one doesn’t exist; they’re simply rare. Similarly, many people might only believe certain events when they actually experience them, but that doesn’t mean something unexpected won’t happen.
In 2018, for example, most people likely never believed that a pandemic would happen in just two years, but it did. There are a lot of catastrophic events in our lives that have happened that were outside the range of possibilities that we thought would happen.
Should you obsess over every remote possibility in your life or business? Of course not; otherwise, you probably wouldn’t get out of bed in the morning. But there are things you can do to help yourself prepare for random and low-probability disasters. One of those is to hedge for unforeseen and what you think are low-probability events. For example, if you’re an investor who primarily invests in stocks and bonds, you might diversify your investments—let’s say with gold or silver, for instance—in case those stocks and bonds fail.
Now, should you buy every conceivable hedge out there? That is a judgment call. For example, if you think your supply lines from China might be at risk, one hedge is to develop a supplier in Mexico. That may be expensive, but does the hedge protect you from a possible scenario? You decide. If you think it does and the cost is reasonable, then you might consider doing it.
Of course, identifying black swan events is tricky. As the term denotes, these events are not really seen or experienced with enough frequency to have a bell curve characterized around them. Maybe they’ve been discussed in history books, but that just makes it likely to be labeled as an obscure, unlikely event. There is really no foolproof way to identify a black swan. The key is to know as much as you can about the world and keep abreast of not only current news but also historical events that seem similar to what is currently happening.
Finally, be flexible. Know when events are showing that it might be time to change your strategy, whether in business or investing. There are no guarantees. Simply thinking that tomorrow might not turn out like yesterday is a first step in ensuring you have the right mindset for almost everything life throws at you. The surprises of the past few years should remind us of that.
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