Financial Black Swans: Why Your Money is Never Wholly in Your Control

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Caution: Post contains Masterchef spoilers if you haven’t watched the season finale from this Monday yet!

If you’ve read “The Black Swan: The Impact of the Highly Improbable” by Nassim Nicolas Taleb, you can already guess where this post is going. For those of you that haven’t, I highly recommend it.

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It’s one of those books that will change your perception about your life — given you can get over the author’s hilarious arrogant academic overtones. I really enjoyed reading Taleb because he’s pompous, but seems obliviously so — he’s just really, really smart and it makes the rest of us normal people feel very dumb. But what is a black swan? (not the Natalie Portman ballerina version)

black swan

noun
  1. an unpredictable or unforeseen event, typically one with extreme consequences.

The concept of black swans is that the fate of something (your financial health, for example) is more likely to be determined by single extreme events rather than a series of small efforts.

This means that your financial success or failure is more likely to be determined by a major event rather than your day-to-day habits.

How is this possible? The Personal Finance community (myself included) will tell you it’s the day-to-day effort of saving, living frugally, and avoiding debt that will determine your financial health. And truly, when you examine your life daily, it will look like these are what adds up to your current net worth picture — but chances are if you accept firstly, that you genuinely have no clue whatsoever what the future holds, and secondly, examine your past with a critical eye, you’ll be able to find some black swans lurking in your financial history.

courtney-master-chef

Courtney of Masterchef going from “here” to HERE as her $250,000 Masterchef prize — a financial black swan! — swoops in and takes her out of the gentleman’s club and into a culinary career

One of the main examples Taleb uses in the book is the life of a turkey: for one thousand days, the turkey leads a normal life in its pen. It expects the following 1000 days to proceed exactly the same way, totally uneventful. Instead, it’s head gets chopped off so the bird can be eaten for Thanksgiving dinner. Drastic, unexpected, and life-altering.

Taleb even argues that the longer you go without experiencing a black swan, the more like it is that you’ll encounter one. In other words, just because nothing has happened yet is exactly why you should believe something is about to happen.

But don’t be fooled by the ominous name, not all black swans are negative — some are tremendously positive. But we have a tendency to take credit for the positive black swans in our life and claim bad luck as the culprit of the bad ones. Truthfully, you have no control over which black swans you’ll experience in your lifetime — but they’ll drastically alter your financial picture.

Positive Financial Black Swans:

  • receiving an unexpected inheritance
  • winning a lottery
  • receiving a settlement
  • getting an unexpected major promotion or job opportunity

Negative Financial Black Swans:

  • suffering a debilitating illness or disability
  • having an unplanned child
  • going through a divorce
  • getting fired or laid off from a secure job

By nature the black swans are described as “major”, but how major they really are is in context of your own life. For some people receiving an extra $10,000 is a life-changing event, for others $50,000 or $100,000 won’t make any real difference in their lifestyle. Regardless, this money can come from anywhere.

What are my financial black swans?

I can’t think of any off the top of my head. My first stocks doubling in the first few years I owned them, receiving a big entrance scholarship to my MBA program, creating a profitable website…  but chances are my major financial black swans haven’t arrived yet. My adult life has barely started, and more likely than not, there are some financial black swans lurking in my future worth tens of thousands dollars (possibly hundreds of thousands of dollars) that will drastically alter my financial picture — for better or for worse.

Can you protect yourself against black swans?

Yes and no. Stock and housing market ups & downs are outside your control, but a collections agency hounding to pay your debts are not. An emergency fund won’t stop you from getting laid off from your job, but it will help you cope until you find a new one. Planning for retirement isn’t necessary if you’re going to win the lottery, but you don’t actually know if you’re going to win the lottery so it’s best to err on the side of caution.

What you can do is understand that no matter what you do, you can’t plan your whole life in a spreadsheet. You need to be flexible and resilient to deal with dramatic events that drastically alter your financial picture. At any point in time, your life can be dramatically, irrevocably altered by circumstances beyond your control.

Have you been hit with any dramatic unexpected events that changed your finances for the better or worse?


7 Comments

  1. Annnnd I just put that book on hold at the library – thanks for the suggestion! What a neat concept, I’ve never heard of it but it actually makes a fair amount of sense. I have never been hit by any bad black swans (knock on wood!) but I have made some pretty big decisions that will lead to major life changes lately…and with that comes some drastic lifestyle & spending changes. Maybe that counts? If so, I’d say it’s a grey swan: it’s tough in the short term but the payoff will be worth it. Awesome post, Bridget.

  2. I have dealt with two financial black swans this year, one positive (unexpected job opportunity) and one negative (chronic illness). The latter would have been much worse if I didn’t have health insurance. Which is crazy scary, considering I have been insured off and on since I turned 20. Now, I’ll never go uninsured again. Worth every penny!

    I hope your future financial black swans are positive 🙂

  3. SP

    Have a plan, and know that your plan is wrong. It is always wrong, and you adapt and make a new plan. (That is project management advice I’ve received, but works as well for life.) I try to make choices that are likely to lead to better future options and minimize risks. I do always look back on my life and think of how lucky I was at each step, but nothing was completely unexpected.

    I can’t think of any black swans in my life. Lots of things have happened somewhat by chance, and some have had moderate impacts, but nothing that was unpredictable. I understood the risks / rewards well in advance.

  4. Best way to prep yourself for Black Swans? A little advice from Charlie Munger:

    “People chronically misappraise the limits of their own knowledge; that’s one of the most basic parts of human nature. Knowing the edge of your circle of competence is one of the most difficult things for a human being to do. Knowing what you don’t know is much more useful in life and business than being brilliant.”

  5. Dayle

    Not really – I can’t think of anything major that happened to shape my finances…
    I was divorced at 25 but it didn’t hugely affect me… we owned a house but had only bought it 10 months prior so basically the equalization was that I got enough money out of the house for a downpayment on a new one (and he stayed in the old one)…I banked the money and bought a house 2 years later on my own…
    My income has been steadily increasing thru my 20’s…
    I guess the one (good) black swan was the chance to work a lot of OT during 2012… I worked a ton but it allowed me to get debt free, and bank a lot of cash. That was the turning point for me I guess. It’s amazing once you don’t have debt payments how much easier it is to manage everything else! I got used to the OT money and thought I needed it, but in reality, I don’t.
    I enjoyed this post – thanks!

  6. Excellent… Haven’t had a positive black swan yet, so it should be due anytime soon! Then again, no negative black swan either. Woops! 🙂

    I think you can protect yourself against most black swans, but not all of course. Chronic ilness, for example, really sucks, but having a bunch of savings really can make the ilness more bearable or even comfortable.

    Awesome post, Bridget! I’m also adding your recommendation to my “to read” book list.