Every time there is a major crisis, I get asked “What should investors do Now?

My answer is always the same:

The time to look for the emergency aisles and where the exits are located is before takeoff, not after the wings fall off the plane. You must have a plan in place to deal with unanticipated events, a just-in-case things head south scenario.

Ideally, you put this plan together when you are objective and unemotional and calmly contemplative — not when things are figuratively and literally melting down.

The people claiming you cannot anticipate an Earthquake/Tsunami/Nuclear accident are missing the point: We can anticipate disruptive events, as they come along all too frequently in history. Consider the following list, via Doug Kass of those 100-year flood/once in a lifetime events.  These occur far more regularly than most people believe:

>

Black Swan events over the past decade

• Sept. 11, 2001, attacks on the World Trade Center and Pentagon;
• 78% decline in the Nasdaq;
• 2003 European heat wave (40,000 deaths);
• 2004 Tsunami in Sumatra, Indonesia (230,000 deaths);
• 2005 Kashmir, Pakistan, earthquake (80,000 deaths)
• 2008 Myanmar cyclone (140,000 deaths);
• 2008 Sichuan, China, earthquake ( 68,000 deaths);
• Derivatives roil the world’s banking system and financial markets;
• Failure of Lehman Brothers and the sale/liquidation of Bear Stearns;
• 30% drop in U.S. home prices;
•  2010 Port-Au-Prince, Haiti, earthquake (315,000 deaths);
• 2010 Russian heat wave (56,000 deaths);
• 2010 BP’s Gulf of Mexico oil spill;
• 2010 market flash crash (a 1,000-point drop in the DJIA);
• Surge of unrest in the Middle East; and
• Thursday’s earthquake and tsunami in Japan.

Do you have an emergency plan ready for when things get dicey . . . ?

Why not?

The time to do drills is before the blitz, not after.

Category: Investing, Psychology

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

41 Responses to “Black Swans, 100 Year Floods”

  1. V says:

    Probably will create a buying opportunity too, some of the Australian uranium related companies have been hammered.

  2. krice2001 says:

    Well, I think most of us were caught off guard as is always the case. No, I didn’t have a plan in place and not sure quite what that would look like in terms of investing. I guess the reason I’m relatively calm is I did take heed (as I always do) your comments in the past several weeks that things were frothy and a correction of some sort seemed likely, so I’d moved down to about 25% – 27% equities. I can sustain a fair amount of downside at that level of exposure. I guess at some point this does become an opportunity esp. if the Fed keeps supporting prices.

    Appreciate the information you provide.

  3. dead hobo says:

    BR noted:

    Every time there is a major crisis, I get asked “What Should Investors Do Now?”

    reply:
    ————
    Well, you might consult a magic chart and see if a pattern from a decade or two or three or more ago matches the one from the past couple of days and assume this event will play out like that one because the charts look similar. After all, the Hang Seng is the canary in the coal mine (heh heh)

    Or you can actually think it through.

    I prefer the second choice.

    This dip is caused by events, not massive credit bubbles and motivated thieves working together. Said events are local to Japan. A small part of the island is devastated. The rest has taken a gut punch, but will shake it off as time passes just as every other country that has suffered a disaster has shaken it off over time. Uncertainty and fear, and probably a lack of buyers are motivating the fall in equities. Buyers will probably continue to sit on the sidelines until the dust settles. Thus, sellers who panic will take it hard. Everyone who waits it out will see the recovery rally return along with portfolio values.

    Although it might be crass to write about economics at this time, it makes sense if it helps avoid panic. Almost everyone in the world is doing what they otherwise would have done if no catastrophe occurred. The worlds is still spinning. The average person already knows this will go about their business. The world will resume its daily flows. Japan will spend vast sums to repair itself and to keep credit flowing. The media will provide information, but in a way that balances maximum sensationalism with the need to not be caught maximizing sensationalism.

  4. Petey Wheatstraw says:

    dead hobo Says:

    “This dip is caused by events, not massive credit bubbles and motivated thieves working together.”
    _____________

    When falling off a cliff, does it matter what pushed you over the edge? The imbalances caused by massive credit bubbles and thieves working together are exposed and exacerbated by events such as we are witnessing. We were already in a precarious position on a number of fronts — the situation in Japan is the Black Swan that might have pushed us over the edge. Japan is the world’s 3rd largest economy. Right now, it isn’t functioning, and more fiat money won’t offset or cure that reality. Our Tsunami is coming.

  5. dead hobo says:

    Petey Wheatstraw Says:
    March 15th, 2011 at 8:23 am

    When falling off a cliff, does it matter what pushed you over the edge?

    reply:
    ———–
    Clever, but extremely off point. That’s like you should treat an injury identically to a sickness since both put you in the hospital.

  6. “The time to do drills is before the blitz, not after.” -BR, above

    no kidding..

    how We love to forget that “SH” is a broad Category..

    also, FFR: “Puts act as ‘Insurance’..”

    http://www.fool.com/investing/options/2007/04/24/options-the-basics.aspx

    http://www.optionsandfuturestrading.com/Trading_Options_as_Insurance.html

    http://www.investopedia.com/terms/p/protective-put.asp

  7. royrogers says:

    no need to listen to Kass.
    Barry has again called the correction, which he has been mentioning for several months now.

    Now we just need a dip the toe in the water call by Barry to start buying.

    I do not know of any other trader that has been consistently accurate like Barry in recent years.

  8. Raleighwood says:

    Okay – how about unemployment, homelessness & hunger (versus a stay in the hospital).

    Does it matter if caused by thieves or tsunamis?

    http://www.emergencypreparationforum.com/the-first-100-things-to-run-out-in-an-emergency-50.html

  9. mathman says:

    More along the lines of this topic (of what to do now) it appears that our inability to learn from mistakes
    dooms us to repeat them until we’re destroyed in the process:

    “despite the inevitable design failures, cost overruns, construction shortcuts, operation scandals, disposal issues, mining contamination, water disruption, environmental risks, socialized losses, proliferation concerns, and occasional uninhabitable hellscape, nuclear power remains the solution to America’s energy future.” Maru

  10. Chad says:

    That’s not even a full list of all events for the last decade.

    I have to agree with dead hobo here. This is an uncontrollable event causing a loss of money (tsunami). Not the system destroying itself and causing a loss of money (theives). It is much easier to fix a system (roads, ports, etc.) destroyed by outside forces than to fix a system that destroys itself (theives). With the first you mostly just build to replace what was destroyed (many times better built)…easy. With the second it’s difficult to even figure out how it happened or why, as part of the system has a vested interest in not helping you identify the problem or fixing it.

  11. Alex says:

    Well, I suppose I have asked that question after certain extreme events. But its not a question of loss mitigation strategy, but profit maximization. While broad asset classes are adversely affected by the “100 year flood” events in the above post, I am pretty sure that some got REALLY hammered. And of that sub-set, I believe there are often at least a few that were pushed too low.

    So I when I ask that question, my focus is on “what should we be watching, to see if it will become a major (maybe generational) buy?”

    From that perspective, I think the question you originally posed is quite reasonable.

    Do any of you have any answers to the question of what is worth tracking as a potential buy in the future?

    I would hope the answer is not always the same to that question!

  12. davver1 says:

    I don’t mean to challenge your main point, but there is a difference between many of the disasters you listed and this one:

    Those happened to poor third world countries with tiny economies. If people in those countries die its tragic, but it doesn’t effect world economic output that much.

    People in Japan are rich, and a meltdown would have a big economic effect. If radiation reached Tokyo it would be a complete disaster.

  13. Ny Stock Guy says:

    btw Barry, thanks again for the half cash call a ways back.

  14. cannuck says:

    I for one welcome our new zombie fearing, gun totting, survival gear prepping market wizard overlord.

  15. Mike in Nola says:

    Americans have gotten spoiled over the past century, cushioned by huge resources, oceans and plenty of area into which to expand. We really are examples of Taleb’s inability to realisitcally account for the probabilities of extreme events even though we see them happening to everyone else in other countries. Two weeks ago, we thought North African developments were pretty surprising, but they were nothing.

    I don’t claim to be an exception. If you had asked me six years ago my chances of living in Houston, the answer would have been zero. Every so often the wife exclaims while we’re out driving: “We’re living in Houston!”

  16. royrogers says:

    once again Barry is giving wise advice here not to panic for those that were caught with their pants down.
    Everyone should just sit back and think about the situation logically.

    The demand for some commodities will continue if the nuclear industry is
    hampered or rebuilding is required.

  17. willid3 says:

    Chad Says:
    March 15th, 2011 at 9:24 am

    That’s not even a full list of all events for the last decade.

    I have to agree with dead hobo here. This is an uncontrollable event causing a loss of money (tsunami). Not the system destroying itself and causing a loss of money (theives). It is much easier to fix a system (roads, ports, etc.) destroyed by outside forces than to fix a system that destroys itself (theives). With the first you mostly just build to replace what was destroyed (many times better built)…easy. With the second it’s difficult to even figure out how it happened or why, as part of the system has a vested interest in not helping you identify the problem or fixing it.

    this is very true. especially when the ‘thieves’ in the system work very hard to escape responsibility for their actions. and even harder to make sure that they can do it again!
    while the uncontrollable action (that 100 year storm etc) we can see the issues and move to fix them. but even there we will see a lot of foot dragging to avoid fixes because it costs to much.
    while todays mess is because of an Earthquake/Tsunami/Nuclear accident. we would be having almost as much concern if instead of a nuclear power plant if it was: a chemical plant (might have heard of Bhopal before now). an oil refinery (thinking of the Texas city refinery down around Houston), or of a coal fired plant (all that coal tends to have a lot of hydrogen gas build up, no power, no solution for that).
    and i am wondering if any of those plants are in the area where the disaster has hit.
    and we always have industry fighting to not have to plan for, or pay for, disasters. they gripe it costs to much. sounds just like BP and their ‘disaster’ from last year.

  18. AHodge says:

    ugly out there
    thought i in some stuff uncorrelated to stocks risk
    with oil grains, japanese stock market, Fannie they all get hammered over weekend
    only small US stocks penske 3M and Lubrizol and i sold half last week,
    sold all japan on fri
    god bless Buffett buying LZ
    My calls expiring friday exploded
    a blind pig luckout!
    for now i just buy TIP puts (meaning short bonds) little earlier than i planned.
    maybe buy coal?

    near bottom? i hang in with oil and grains for now, saudi bahrain lookin dicey or worse
    i note the japan ETF up 4% from the open
    but no one knows here

  19. curbyourrisk says:

    OK…so we have had 16 separate ONCE IN A LIFETIME events in the past 10 years. Are we measuring lives in dog years, or do we need to recondier what counts as ONCE IN A LIFETIME???

    This is definitely a once in a lifetime event, as it is made up of a 9.0 earthquake, the mutha of all tsunamis, 4 separate potential nuclear meltdowns and no one is even talking about the volcano tht woke up thanks to this little event…Shinmoedake Volcano….

    PLEASE……Our HQ is located there….I was there last June for 2 weeks on business. These people need our help…. Put all partisan bickering aside and lets all pitch in, anyway we can.

  20. AHodge says:

    as for black swans they increasingly man made
    deep water drilling, global finance, those nuke plants down the road? lets ask the “experts” how much risk they took on??? Sorcerers apprentices.

  21. Gator81 says:

    My experience has been that it isn’t the big hairy scary gap-down days that eat my lunch. It’s more the drip-drip-drip of one day up and two days down, a fraction of 1% at a time that get me, because I suffer the common ailment of amateur traders: I hold on to losing trades too long.

    This a.m. gave a 2+% gap down. Taking a quick look at the last 15 years of daily OHLC data, there’s been about 41 of those, by my count. All but 4 of those recovered to completely fill the gap within a week. Of the 37 that recovered within a week, the average recovery time was less than 2 days. 25 of the 37 recovered the same day, 3 within 2 days, 2 within 3 days, 5 within 4 days, and 2 within 5 days.

    If you were smart/lucky enough to pull back recently, it sure looks like history and statistics are pointing to a buy-the-dip moment. That’s a 2% gain in 1 to 5 days, in 90+% of similar instances over 15 years.

  22. [...] Ritholtz makes a good point this morning. When people ask, “how should I be investing now?” The answer is that your contingency plan [...]

  23. Thor says:

    Excellent post BR, especially DH’s point as well as Chad and Willid3 for expanding it!

  24. louis says:

    If you are part of the AIG/CHASE/GOLDMAN clique you will be fine no matter what your risk management strategy is. If you are part of the LEHMAN/HOMEOWER clique I would suggest a VXX position and an oil pump.

    http://www.youtube.com/watch?v=3_zHaHi3OZw&feature=related

  25. [...] you should have followed your discipline. It could have included such rules as: • Buy the stock on a high volume breakout over $11 (1st [...]

  26. DMR says:

    It’s also surprising how simple disaster avoidance is. You don’t need high techology. The exact scenario happened during the 2004 tsunami. 30 ft waves washed over a nuclear reactor at Kalpakkam in Southern India. Since the area was prone to hurricanes, they didn’t just rely on a sea wall…they built a diesel generator on stilts at 50 ft. The waves washed right over the reactor and it continued safe operation.

    The same could probably be said of the financial WMDs…some very simple, boring sounding rules like the Volcker rule or Glass Steagall go a long, long way in terms of avoiding catastrophe.

  27. wally says:

    Unfortunately, contingency plans almost always involve getting out the door when everybody else is trying to do the same… unless you can foresee the future.

  28. KJMClark says:

    That list is *really* unfair to Japan. This was a once in 1100-year event. Once in a lifetime is nothing. That’s once in about 22 lifetimes.

    We need an official arbiter of what constitutes a “black swan”, since I’ve read other people say this earthquake/tsunami was *not* a black swan, since a severe earthquake and tsunami did happen in the area 1100 years ago. (Though we don’t really know the severity of that one. It was supposedly estimated recently at about a magnitude 8.6 [http://en.wikipedia.org/wiki/869_J%C5%8Dgan_earthquake_and_tsunami], which makes this one much more severe than even the one 1100 years ago.) Since the usual interval for severe quakes in that region is about every 1000 years, supposedly there were predictions of an overdue large quake.

    Also supposedly, Puget Sound last had a similar earthquake about 1100 years ago.

  29. joinvestor says:

    I’d like to respectfully question the premise of this post. Is it really wise to look at “Black Swans, 100 Year Floods” and see economics and opportunities for financial profit or loss? Isn’t there is a point at which considering economics affects your judgment which in turn changes who you become?

    “We can anticipate disruptive events, as they come along all too frequently in history.” Yes. They do. And shouldn’t that anticipation focus on what will it take to mitigate suffering?

    David Weidner’s article today over at MarketWatch was spot on:
    http://www.marketwatch.com/story/worse-than-japan-maybe-our-reaction-2011-03-15

    Just a thought.

  30. Sunny129 says:

    This market is built on liquidity supplied by Ben & Co with bailouts, ZRP and QEx and NOT on fundamentals. The rigged market is being ripped slowly by it’s own KARMA! No tears here!

  31. larry says:

    Why the lack of emergency plans? And why the lack of resilience?

    Several things pop to mind. First is the mindset of blind faith (markets/technology/God) and “this time it’s different”. It’s also greed that leads to “efficiency” by lack of safety systems, cash reserves, “redundancies” and other sources of resilience.

    Look at the Deepwater Horizon oil spill. Part of it was the faith in technology. Another part was greed, as there was a lack of investment in emergency response abilities and R&D for oil spills.

  32. Ned Baker says:

    My 2 cents:

    Even if the earthquake, despite its human toll, has a low global economic cost, that does not mean it won’t move markets over the medium term. Isn’t it easy to imagine that some imbalances stored up in the global economy’s tectonic plates can be triggered to start adjusting due to this event, resulting in a global financial tsunami?

  33. louis says:

    “and “this time it’s different”. ” Larry says

    Are you the Larry that teaches at Harvard?

  34. [...] Sources:Black Swans, 100 Year FloodsBarry Ritholtz – The Big Picturehttp://www.ritholtz.com/blog/2011/03/black-swans-100-year-floods/ [...]

  35. socaljoe says:

    If it occurs so frequently, is it really a black swan?

  36. [...] Barry’s list of Black Swan events and 100 Year Floods is a great reference.  (TBP) [...]

  37. dead hobo says:

    socaljoe Says:
    March 16th, 2011 at 3:40 am

    If it occurs so frequently, is it really a black swan?

    reply:
    ————
    Haven’t you been paying attention. Today, everyone is a contrarian and every event is a black swan. If you want to be an outcast, tell people you’re conventional and act like much of what happens is routine. Boy, will you be ignored and treated like a wacko.

  38. faulkner says:

    Definitely a Grey Swan

    This is textbook, if tragic, example of human risk mitigation behavior in the face of technology. The danger is known, and can be (at least somewhat) mitigated with technology. Except when it comes time to do so, we humans don’t, or if we do, it’s a lot less than is needed. The so-called scandals over shoddy workmanship should come as no surprise. We’ll hear about our own when the time comes.

  39. [...] Wonderful post by Barry Ritholz: “The time to do drills is before the blitz, not after.” [...]