Has This Coronavirus Taken Us by Surprise?

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Published on March 10, 2020

| 4 min read

Vassilios Papathanakos, PhD, Distinguished Researcher


Nassim Taleb popularized the black swan in his eponymous book. He described it as an event that’s highly surprising, highly disruptive, and, in hindsight, deemed obvious by market participants. The current market impact caused by COVID-19 seems to fit the bill. While investors are still trying to price in the full effect of the virus, it is prudent to remind oneself of the potential impact of black swans, but also of the risk management tools available to mitigate their portfolio impacts.

In times when a large part of the population is at risk, and governments and private organizations need to marshal all of their resources, it is important to maintain the short-term liquidity required to fund urgent liabilities, while also preserving the “seed corn” required for the long-term recovery.

Whistling in the Dark

Black swans aren’t “never-happen” events any more. Preparing for them is possible, even though governments and investors often downplay them. The on-going coronavirus epidemic has been both a surprise and a disruption to the markets, but it’s not just drawing on hindsight to remark that its risks were obvious. After all, infectious diseases rattle our world every generation or two, and pandemics have been a mainstay in speculative fiction.

As a fiduciary, you can’t afford to disregard such events. Planning is prudent. Financial calamities often arise from events for which we’ve had numerous warning signs, which were sometimes disregarded or overlooked. For example, such events include (in no particular order, many entries can cascade across categories):

Table v6


But this incomplete list of short-term black swans ignores long-term shifts away from stable equilibrium. For example, the potential impacts of a warming climate can alter our complex global economy in unimaginable ways. In general, the more complex a system, the more flexibility it exhibits, because it tends to rewire itself. That’s why free markets work rather well; they don’t have a single point of failure. Unfortunately, there’s a point when enough strain accumulates that it exceeds the ability of the complex system to self-correct, and widespread disruption explodes.

Expect the Unexpected

Preparing for tail-risk events is vital: the key is to become resilient overall, because no matter how comprehensive your scenario planning, it’s very likely that the next financial calamity will take the markets by surprise. As such, besides planning for specific threats, you should make contingency plans for the unexpected.

This is not straightforward, as many popular recommendations often fall short of expectations:

  • Gold is a perennial favorite, especially during certain types of crisis, like runaway inflation, but it doesn’t usually protect against liquidity crunches, as investors often resort to selling it to meet their obligations.
  • Derivatives that appear to contract away risk tend to fail at the worst possible time, when market-wide shocks affect every major counterparty. Not to mention, they can also be expensive to maintain and can cap upside potential.
  • Artificial intelligence and machine learning can’t protect against black swans because these models only learn from many unambiguous data examples. They can’t foresee what’s never happened before, or reliably estimate likelihood and impact of extreme outliers.

There are, however, some very practical approaches used by investors to get them through tough times, and we consider them best practices for adding resiliency to your portfolio:

  • Get as much mileage as possible out of diversification at every level: asset classes, investment approaches, securities, etc. Even the most sophisticated investors need the reminder: don’t put all your eggs in one basket.
  • Monitor market risks beyond measures of volatility, which only shows lagging or coincident price changes. Volatility is not the same as risk, which is unrealized until the moment it’s not. Understanding and monitoring unrealized risk is vital.
  • Maintain at least a partial exposure to defensive strategies, like low volatility equity strategies, designed to participate in up markets with a level of downside protection and – importantly – preserve an important source of liquidity in hard times.

Managing tail-risk events should be an integral part of an investment processes. By replenishing diversification across our portfolios regularly, monitoring metrics capable of detecting market stress, and including defensive strategies as a policy, we can get at the heart of risk mitigation without protecting against every “surprise.”


The content presented is for general informational purposes only and is not intended as investment advice, as an offer or solicitation of an offer to sell or buy, or as an endorsement, recommendation, or sponsorship of any company, security, advisory service, or fund. Nor does it purport to address the financial objectives or specific investment needs of any individual reader, investor, or organization. Past performance is no guarantee of future results. Investing involves risk, including fluctuation in value, the possible loss of principal, and total loss of investment.