The dominant market momentum for nearly 40 years has been a Faustian trade: leverage long government bonds and short idiosyncratic risk. This trade, supported by monolithic credit and currency regimes, has reached its breaking point. The United States will no longer support global consolidation. Countries must go it alone. Capital can no longer chase one big trade. It must instead embrace many smaller trades, and many concurrent, multi-stage continuums. 70 years of global consolidation in geopolitics and markets is giving way to something more individuated, something less overarching and more local and contextual.
The Prophecy was Volatility
When Zeus consumed the Titan Metis, it was the metaphor for the totalitarian consuming the local. The prophecy was the titan would bear children so powerful they would overthrow the monarch. Yet despite Zeus devouring the titan, Athena the Goddess of Civilization was born out of Zeus’ head.
Metis was the primeval force of local contextual knowledge, a combination of cunning, craftsmanship, and wisdom. She represented the power of familiarity with the variances of things which depart from the ordered regime, which make a thing unique. Metis was the local, idiosyncratic deviation which destabilized Zeus’ grand monocultures and orchestrations of force. A symbol of the godlike permanence of volatility.
Convexity is More Important Than Knowledge
The race to the middle among managers which has created a monoculture of risk management ideologies always relied on the belief in the power of historical knowledge. The seen value of known, backtested market data points has served as the prime tool to squeeze out crumbs of beta market profitability. The deep knowledge which leads to zero profits leaves behind an unseen world of hidden volatility which is exposed as the regime reverses. (That Which is Seen, and That Which is Not Seen).
But after-the-fact knowledge is cognitively easier to test than before-the-fact axioms. This ease represents the dividing line among investors. The cognitive bias is the new systemic risk which a polyculture of investors must hedge. To capitalize on volatility, investors must employ before-the-fact axioms, even when the market does not immediately vindicate their principles.
Volatility can eradicate a year’s worth of after-the-fact knowledge in a week. Prometheus, the titan of un-occultation (weltanschauung) and the market’s strange, non-conformist wobbles which set off tidal waves of selling, is also the Titan of Convexity.
Investors MUST be comfortable adhering to axioms which are not statistically demonstrable, if they are to overcome the competitive limitations of knowledge. Devotees of axiomatic, before-the-fact investment philosophies are the only practitioners which can afford to pay today in order to survive volatility events tomorrow.
After-the-fact knowledge-based investors all plant the same anti-volatility crops together, and all panic in unison as the monoculture sours. Polyculture in a portfolio means a reliance on before-the-fact axioms and a sacrificing of some return today for a greater positional advantage to come.
Monocultures fail conventionally, polycultures succeed unconventionally. Embrace volatility and you embrace convexity. Embrace convexity and you embrace civilization.
-RC