It’s been 10 years since the world learned what a black swan was, embracing the concept as the best-feeling explanation for the 2008-09 worldwide financial crisis.
Today it’s worth looking back at that concept and book, by trader and supremely arrogant pontificator Nassim Nicholas Taleb, to see if we’ve learned its primary lessons, because we tend to forget wisdom gained in trauma as the pain fades.
But it’s also something I’m looking at again because we’re wading through a markets situation right now that I’m calling a grey swan, for which some black swan lessons seem to apply but for which far more mundane causes seem to be the author.
A black swan is, according to Taleb, an event that is impossible to predict, has a massive impact, and afterwards gets rationalized away as if it had been predictable.
Nearby hog prices have crashed, squeezing all farmers relying upon the cash market and threatening to crush and drive them from the industry.
Yet fourth-quarter cash and futures hog prices are stronger. They’re not great, but they’re survivable.
That overturns conventional wisdom for how the hog market should operate. What’s supposed to happen, we all think, is that pork prices peak at the height of the summer barbecue/sweltering barn season, tail down gently toward the autumn, then slide, slump or crash between October and Christmas.
In 1998, the hog market crashed in the fourth quarter, dropping live hogs at one point to $8 per head. That might have seemed like a black swan, and in some ways, it was unprecedented.
But the next fourth-quarter slumps were nothing of the sort because we all know they hit every once in a while. Most producers hedge against fourth-quarter slumps with forward cash contracts, futures or options.
They weren’t hedging against future black swans, but just against reasonably predictable risks.
However, many are vulnerable to third-quarter slumps like today’s because they don’t expect them to occur. To some, this current problem probably seems like a black swan.
But it’s not.
It’s hardly unpredictable that at some point something will happen within the January-September window that badly knocks pig prices off their usual seasonal pattern.
Right now, the bearishness looks like a combination of surging pig supplies today and worries about clearing pork in coming weeks, while the relative bullishness for the fall involves expectations of growing pork exports as China grapples with African swine fever.
That’s a unique combination, but the fact that something will disrupt supplies and demand at some point should be expected. It’s just that it’s happening now.
To me, that makes it what I’ll call a grey swan because it’s unusual but hardly a shock. It’s interesting and surprising, but not drop-dead stunning.
Only hedging the fourth quarter because that’s when slumps usually occur isn’t just not hedging against black swans; it’s also completely ignoring the less exotic grey swans.
Taleb warned us about needing to cover our risk against entirely unpredictable events. A natural step further down that road involves the more mundane advice to hedge against unlikely events but that are to be expected over the long run.
Black swans got a lot of attention 10 years ago, when the world seemed to be collapsing.
But while that one flapped off, there are enough grey swans still flapping around that farmers should expect to get pooped on at some point.
Deciding whether to carry an umbrella or a handkerchief is the question each farmer needs to ask himself about grey swan defence.