13th Dec 2021 by Henry Findlater

Talking Turkey


Within this article, Henry Findlater, Partner and Senior Manager, discusses discusses how central banks support to financial markets has impacted investors and their risk tolerance, using the analogy of a turkey’s life.

Many of you may have read “The Black Swan” by Nassim Taleb, a book published in April 2007. This fable is paraphrased from a chapter in the book and hopefully provides the reader a valuable lesson.

During the run up to Christmas, life feels pretty good for a turkey. The bird is fed, watered, and protected by a farmer. Unlike the early days of its life, the turkey becomes less afraid when the farmer comes outside with seed to eat or when he ushers the bird back into the barn at night. Over time the turkey feels contented and safe, the bird looks forward to the farmer’s visits and trust is at its peak.

“Consider that the turkey’s experience may have, rather than no value, a negative value. It learned from observation, as we are all advised to do (hey, after all, this is what is believed to be the scientific method). Its confidence increased as the number of friendly feedings grew, and it felt increasingly safe even though the slaughter was more and more imminent. Consider that the feeling of safety reached its maximum when the risk was at the highest!”

In recent times the Central Banks could be the farmer and the investors could be the turkey. Central Banks have been unwavering in their support for risk assets; the most recent example of their benevolence was shown during the 2020 peak of the Covid pandemic when banks flooded the market with liquidity. Thanks to programs such as Quantitative Easing in 2008 markets have learnt that it pays to take risk; investors have become more confident in this assumption each time central banks have supported investment markets.

World Central Bank Liquidity injections 2006 - present

At some stage one may assume markets will be left to their own devices and, without the farmer’s support, the real risk of assets could be laid bare. Let me be clear, we are not ringing time on the upward trajectory of world stock markets, we have never been in the business of making such forecasts or predictions. Secondly, risk cannot be removed (unless you want no return!), but we do believe it can be mitigated. We believe the best way to insulate a portfolio from an increase in risk is to employ methods that are readily available to all investors: Prioritise diversification, target premia that are proven to have succeeded over time (for example small and value) and ensure your portfolio is aligned with your four cornerstones: time horizon, goals, capacity for loss and risk budget. It is these areas that should be the focus of attention for investors, even though it is “exciting” to second guess the future. It should also mean you feel more relaxed as you enjoy a celebratory meal at the end of the year. Happy Holidays!

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