The Black Swan called COVID-19: Its Financial Implications

“Those who cannot remember the past are condemned to repeat it”

George Santayana

The famous quote said above by George Santayana has become a favourite amongst those who remind themselves of society’s past mistakes, promising themselves to never make the same ones their forefathers once made. Yet such a statement becomes a fallacy when one believes that history rarely repeats but instead ‘rhymes’, something which Mark Twain once believed. Both sayings however remain insufficient, for most people often don’t see the events of the past as a catchy song or poem. Perhaps one of William Blake’s most famous quotes is more appropriate for recent events:

“Hindsight is a wonderful thing but foresight is better, especially when it comes to saving life, or some pain!”

William Blake

The current viral disease outbreak known as COVID-19 or ‘coronavirus’ would make many wish they heeded Blake’s quote. It is hardly comparable to any recent past event. Whilst similar epidemics such as HIV/AIDs or SARS (which is similar to COVID-19 as a respiratory disease) have occurred in the past with either greater or less detrimental effects, the ease of exchange information now enjoys has only made COVID-19’s own rate of transaction easier too. This is not in the sense of it being a biological epidemic, but rather through the psychological epidemic that is in tandem with it, something which my colleague previously elaborated on.

The sad thing now is that the fear that has consumed many people has infected one key facet of the psyche that constantly helps people in their everyday lives, whether it was to help one learn to ride a bike or drive a car for the first time, or to make a decision that could have life-changing or unforeseen consequences such as Hitler’s invasion of Poland that later escalated to up to 85 million deaths. That facet is confidence.

Such confidence is very much a requisite for anyone willing to play the game of money, whether their preference is gambling on the roulette tables or betting at the bookies on their favourite horse. The greatest game of all however, that of stock investing, makes confidence a necessity. I was once told that it, along with a bit of spare cash, is all that is needed to participate in such risks. After seeing the effect COVID-19 has had on global shares, one’s belief in this principle became ever more greater.

Why this is is because of the sheer amount of faith in the markets that has dissipated in the past few weeks. On the 20th February, the Dow Jones had a closing price of 34,533.21 points. Only a month later on the 19th March, it closed on a price of 24,116.65 points, just over a 30% drop in value (MarketWatch 2020). The same percentage drop can be said for the S&P 500 Index that represents America’s largest companies (Ross 2020). Writings were already on the wall by the end of February, with US markets having suffered “their worst week since the global financial crisis of 2008” (BBC News 2020). This is not exclusive to America either. In the last month in Europe’s markets, the British FTSE 100 went from 7,436.64 to 5,151.61 points (over -33%), with the German DAX from 13,664.00 to 8,610.43 points (over -30%). Similar results were witnessed in Asia, Japan’s Nikkei 225 went from 23,479.15 to 16,358.19 points (over -30%) along with Hong Kong’s Hang Seng going from 27,609.16 to 21,709.13 points (over -23%) (MarketWatch 2020). The metaphor of one sneezing and the rest catching a cold could not have been a more fitting description of our current economic predicament.

Considering all the confusion that is currently occurring, the words of an unknown “major company boss” captured the moment perfectly. For them, the financial fallout the coronavirus has caused was a “known unknown” (BBC News 2020). It was inevitable for the virus to spread when our world is now globalised more than ever. Yet we failed to predict the hysteria the disease would cause, resulting in both a fallout of the markets and a unnecessary panic that has resulted in the rationing of certain foodstuffs and toilet paper. If one augured such things were to happen just six months, he would be deemed hysterical himself by the rest of society. It will be unsurprising however if analysts try to vainly explain the current phenomenon that COVID-19 has caused. At the very least, it is a Black Swan.

When I talk of ‘Black Swans’, I am not attempting to turn cases of prediction into a David Attenborough nature programme. What I’m referring to instead is a term popularised by the statistician Nassim Nicolas Taleb (2007), which refers to a empirical phenomenon being characterised by three attributes:

  1. It is an outlier, meaning it goes against what was expected.
  2. It has a significant impact.
  3. Despite it being an outlier, analysts try to make it explainable and predictable with hindsight.

Despite being written over a decade ago now, the significance of Taleb’s theory of some pretending to know what is predictable is still strong. Yet the shock of the coronavirus is that it was still somewhat predictable before its economic impact emerged. As Taleb (2007, p,. xviii) states, “add to this phenomenon the fact we tend to act as if it does not exist!”. Perhaps our ignorance to acknowledge reality is what has led us to our current predicament. After all, to add another quote to this article’s list of maxims, “a bad workman blames his tools”. The hysteria that has been displayed through panic buying only goes to show that even when we can expect the worst to happen, we respond to it in a way that suggests its presence was a complete surprise to us. It reveals how irrational humans can really be, much to the chagrin of Adam Smith if he was here today.

But even though COVID-19 is a Black Swan in its own right, another Black Swan could yet arrive in the form of a world recession. When Taleb made his argument, its timing just before the 2008 mortgage crisis was highly appropriate. Whilst there still needs to be the official declaration of two consecutive financial quarters experiencing negative growth, the impact of COVID-19 hitherto may have already set such a possibility in motion, especially with the large interest rate reductions across the world to counteract the reduced rate in consumption (apart from in toilet paper obviously).

But if such things are to be expected, wouldn’t the possible recession not be a Black Swan? Judging from the excessive optimism some firms are having, it appears ignorance being bliss is very much their motto. JP Morgan announced that despite the coronavirus’s negative impact on retail, companies engaging more with e-commerce will benefit more from the “closings of physical stores & fear of public places”, which “should accelerate the secular shift of retail online” (Reinicke 2020). Whilst this is a benefit of its own, it only further squeezes what little business high streets have left. The collapse of these shops alone could cause a recession by making their employees redundant, leaving them with no wages to fuel their means of consumption that keeps the economy in motion. This however is only one possibility of many that could cause another unwelcomed event.

The moral of this argument therefore is that life is full of Black Swans, even when we have the tools or common sense to predict them. The least we can do, like what Igor argued, is not panic and expect the unexpected. Yet we cannot be optimistic to the point where we assume all will be well once more immediately. A recession may be incoming, which would have unpredictable consequences of its own. We therefore must have some rough foresight of what pain may come that Blake wished he could avoid. But whatever happens, we must proceed with our lives and move on as fast as we can with the confidence that has helped us confront our problems so many times. The world continues moving despite its very troubled past. Humanity, who are very much responsible for that past, must do so too.

Featured image credit: “The black swan (Cygnus atratus)” by Bernard Spragg is marked with CC PDM 1.0