Monday, January 18, 2016

Build an "Antifragile" portfolio not a "sissy" resilient portfolio

We  have been big believers of Nasim Taleb's concept of "anti fragile" when thinking about portfolio building. You want a portfolio that will not gain from uncertainty and not just be able to stringbakc with resilience. His book, Antifragile was a path-breaking extension of his earlier work, yet it seems to have had limited impact on investment thinking. Those who have passed on these concepts are hurt.

2016 may turn into a year of disorder and transition. It certainly feels that way as we enter the third week of the year. If there is more uncertainty and market turbulence, investors should want a portfolio that will gain from disorder. You want a portfolio that will do well if policies are mishandled,  markets reactions are unclear, or  models seem to give false signals.  

The world seems very fragile. We are less than a month away from the last FOMC meeting and there is already talk that rate rises should be on hold. Policy in China is more opaque than a year ago. The credit cycle seems to have turned. The international capital flow cycle has turned and there is concern about the global business cycle. Investors should not want a portfolio build for zero rates.

The antifragile portfolio will have a positive convexity bias and not be overly optimized. It will have a divergent bias. It will be less dependent on fundamental models and more dependent on market behavior. This environment calls for a portfolio that has more trending characteristics regardless of time frame. A managed futures or positive crisis beta portfolio will do well in this environment. 

From Taleb's perspective you don't want a portfolio that is just resilient and bounces back from adversity. That would be a "sissy move". Investors should want a portfolio that will do well in this environment.   Of course, if you feel that the economy is not doing poorly and policy-makers can learn from their mistakes and will get us out of the next jam, then a strong bias to an antifragile may not be your preference, but the risk is that you may be wrong. We already know what the costs of policy mistakes from 2008.

The graphics are from

For more of my thinking anti-fragile and managed futures see my posts Managed Futures as an Anti-Fragile Strategy and Lakewood-Views: Describing disorderLakewood-Views: Quotes from Nassim Taleb's Anti-fragileLakewood-Views: Anti-fragile will change your thinking. )

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