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John Taylor On Whether The Next Market Move Will Be A Black Swan Or A White Crow

Tyler Durden's picture




 

While everyone's strategic focal point still continues to be planted firmly on the black swan even horizon, in essence making the "unexpected" negative event virtually impossible as while nobody knows what will cause the crash, everyone is certain a crash will arrive in some form or another, today John Taylor takes an inverse approach and instead of chasing Black Swans he looks at the possibility of a "White Crow" - or the opposite: a positive outlier event with outsized implications on risk assets. The two main White Crows evaluated by Taylor are i) a conversion of the stock market melt up into a rout up, and ii) a bullish outlook on the EURUSD. The latter is particularly notable as the FX titan has long been known for his extremely bearish outlook on the European currency. Is he throwing in the towel and joining Goldman in the long EURUSD trade? Overall a surprisingly optimistic short-term outlook on the market: "Although our cycles argue there is a reasonable probability of a risk
peak in the first half of March, followed by a sharp decline, the
cyclical picture before that time is positive for risk. The future
outlook might be dark, but the models are positive now. Being open to
risky assets is the only way to go." And with $200 billion in additional liquidity in February and March, he just may be right.

A White Crow
January 27, 2011
By John R. Taylor, Chief Investment Offficer
FX Concepts

Black swans have become so common that at times they represent the consensus position, but in almost all cases they represent the negative outlier, the occurrence that we all must fear. What about the positive outlier? We managers can make the mistake of spending more time watching for the black swans than working to maximize our returns. Basically this increasing tendency is nothing but another type of benchmark hugging. Our clients have pushed us in this direction by applying value at risk measures, establishing drawdown levels, and constantly pressing us to improve our risk management techniques. Although this is often to the good, as both managers and clients need be ever aware of the often nefarious nature of the market, watching out for black swans is not all good. If we are too watchful, we will miss all the white crows. I have been guilty of this as our models, probabilistically derived to reach an outcome with a maximum Sharpe ratio under certain volatility conditions, sometimes place the portfolio in a position that my many years of experience would identify as risky if one of many theoretically possible black swan positions were to occur. My political and market antennae sense the risk and I back off from the position. In almost all cases, it would be far better to maintain the model's position and ignore my stomach pains. Sure, the one black swan would cost the portfolio some return but the nine winners out of ten would overwhelm the one loser even if it were a big one. Black swans are tolerable if the white crows are there to offset them, but as black swans are inherently unpredictable, then not having a stable of white crows will mean that the black swans will cripple your returns.

As we see it now, there are many possible white crows out there. The euro should be on course to suffer years of political and economic agony, but the set up before that trauma could be lots of fun for managers. Our models are beginning to tell us that the euro and the pounds are a good buy. It seems a bit dangerous to me, but with Jean-Claude Trichet at the helm the ECB might even raise the marginal lending rate in the next month or two as food and fuel inflation spikes higher. Just the anticipation of such an event could give the euro a boost. Although we would not hang around after the rate hike, as the last time Trichet did this on July 9, 2008, the euro began a long decline less than two weeks later. Now, everyone else is short — or they were just like us protecting against the oxymoronic expected black swan — and there are plenty of buyers out there just to square up the market. Another interesting white crow is the US equity market. Because it is so high, the obvious trade is a sale, or at least it seems that way to us. The models are all 100% long despite horrifically bad technical signals, which argue that it would not take much to set off a brush fire that could turn nasty. Even though it is not our expertise, the fundamentals look dicey to us as well: Should we shy away from this market or commit as aggressively as the models imply? Why not? The odds don't feel good to me, but the black swan event, a crash, is feared by all — the government, the big Wall Street players, and the mutual funds — so maybe the melt up turns into a rout up.

Although our cycles argue there is a reasonable probability of a risk peak in the first half of March, followed by a sharp decline, the cyclical picture before that time is positive for risk. The future outlook might be dark, but the models are positive now. Being open to risky assets is the only way to go. As projecting the next week is almost always more successful than looking further ahead, you should give yourself a chance to win by taking a chance. You never know what will happen. Is the next move a black swan or white crow?

 

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Fri, 01/28/2011 - 10:03 | 912570 snowball777
snowball777's picture

Is he throwing in the towel and joining Goldman in the long EURUSD trade? 

 

Or merely taking a page from their playbook and talking out both sides of his face?

Fri, 01/28/2011 - 11:21 | 912864 LowProfile
LowProfile's picture

This guy is hilarious.

His thesis is that there's a 'White Crow' working out there that's going to cause a 50% market melt-up (after all, that's what Black Swans do)?  LMAO!

Mixing metaphors and waxing your philosophical navel isn't investing advice!

He's just another cog in the machine that's terrified to admit that when the whole fucking thing comes down he's going to actually have to do some real work for a change.

Fri, 01/28/2011 - 10:05 | 912572 Cleanclog
Cleanclog's picture

OT - but . . . did Erin Burnett really just say that today is Egypt's "Sunday" because it is their day of prayer on CNBC? Geez. Christian Nation much?

Fri, 01/28/2011 - 10:13 | 912589 SlipStitchPass
SlipStitchPass's picture

 Political correct BS will not be tolerated. It was an analogy that people in the US can relate to, and yes we are a Christian nation much.

Fri, 01/28/2011 - 11:35 | 912942 DosZap
DosZap's picture

To whit these radicals are murdering Christians mainly, and any other non mooslim religions.(and they prided themselves on being tolerant, (I got your tolerant).

Since Mubarack hauled ass, they are throwing it in reverse and going back to Cleos days.

Murdering bstds,just like a pack of animals.

Fri, 01/28/2011 - 10:07 | 912576 Mr Lennon Hendrix
Mr Lennon Hendrix's picture

My poll is complete; I had 241 votes which is the required number for a proper poll.  Most people (60%) think the Euro will be the first fiat currency to fail.  Then in descending order it was the dollar second, the pound third, the Yen fourth, and the Yuan last.  Personally, I voted for the dollar, but you know what it is.

Dollar's last move blew stops, huh?  Anyone tired of betting on dollar strength?  Anyone?  Bueller?  Bueller?

Fri, 01/28/2011 - 10:12 | 912587 snowball777
snowball777's picture

No worries about the 'tax holiday' bringing a $1T home to roost?

 

Fri, 01/28/2011 - 11:37 | 912951 DosZap
DosZap's picture

And a 800 Billion $ a yr interest pmt with it.

Fri, 01/28/2011 - 11:37 | 912957 DosZap
DosZap's picture

And a 800 Billion $ a yr interest pmt with it.Thats if no more is spent.

Fri, 01/28/2011 - 10:23 | 912605 French Frog
French Frog's picture

"Most people (60%) think the Euro will be the first fiat currency to fail" ... by definition of the 'majority is always wrong' in trading, the Euro WON'T be the first one to fail

Fri, 01/28/2011 - 11:40 | 912971 DosZap
DosZap's picture

The pound sterling is in horrible shape,second I take the dollar, and then the Euro.

Fri, 01/28/2011 - 10:08 | 912581 Oh regional Indian
Oh regional Indian's picture

It's Black Swan week I'm afraid. 

There is now way Egypt will be capped. Revolution is an exothermic reaction. it burns and heats up everything around it. North Africa has been a powder Keg since WWII.

The White Crow events this coming week will be in the metals. 

ORI

http://aadivaahan.wordpress.com/2010/06/18/of-tipping-points-and-shape-shifting/

Fri, 01/28/2011 - 10:29 | 912632 Clockwork Orange
Clockwork Orange's picture

Live stream from Egypt:

http://english.aljazeera.net/watch_now/

Fri, 01/28/2011 - 10:34 | 912651 bonddude
bonddude's picture

Black swan for which market?

if there is political unrest US Treas RALLY !

Oh and uh the Sonoma Valley Bank fraud is on the FBI's radar and 

facebook / sonoma grapevine -no ads

http://www.pressdemocrat.com/article/20110128/OPINION/110129499?p=1&tc=pg

A NYTimes paper

Fri, 01/28/2011 - 10:14 | 912590 overmedicatedun...
overmedicatedundersexed's picture

bet on the "mulatto swan"..you cannot hide a presidents history forever..a small group in gov could make a mistake and leak..it is coming just like inflation.. both will lead to a major crisis.

just perfect for the next step in globalization..the mulatto will run to the UN..the reserve $ will be replaced..got gold?

Fri, 01/28/2011 - 10:56 | 912730 youngman
youngman's picture

Was that Mulatto swan born in Hawaii????  does it have a long form birth certificate???....sounds fishy to me...oops I mean birdy...

Fri, 01/28/2011 - 12:01 | 913031 overmedicatedun...
overmedicatedundersexed's picture

young: yes, maybe,and yes very fishy., on second thought: maybe, maybe, and very fishy.

PS..the betting is his college info was sealed because he applied for financial aid as a foreignstudent under his Indonesian name.

Fri, 01/28/2011 - 10:16 | 912594 TradingJoe
TradingJoe's picture

Oh Well now all the Bears turn Bullish....! Might as well turn COWish, I don't care! I will no get sucked into this "market", my money is on physicals(big) and puts(small/medium)leaps! Don't give a rats ass where this is going because in the mid to long term it goes to ZERO!

Fri, 01/28/2011 - 10:23 | 912604 Caviar Emptor
Caviar Emptor's picture

Good rumor heard on CNBS: Government of Kuwait (read Royal Family) offering $5,000 per citizen as a gift! To buy off discontent and avoid a Tunisia style revolution (!)

Fri, 01/28/2011 - 10:24 | 912611 Kina
Kina's picture

Bears turn bullish, people talking about white swans not black.

 

The crash cant be too far away now.

Fri, 01/28/2011 - 10:25 | 912614 scratch_and_sniff
scratch_and_sniff's picture

ok, a bullish note on ZH, now im scared.

Fri, 01/28/2011 - 10:27 | 912621 TrihumpTheInsultDog
TrihumpTheInsultDog's picture

Jeebus. Full capitulation as everyone goes full buy-tard. WTF? I cannot believe my eyes.

"And with $200 billion in additional liquidity in February and March, he just may be right."

Ok, Let's ramp this fucker to the moon!

Fri, 01/28/2011 - 10:27 | 912626 scratch_and_sniff
scratch_and_sniff's picture

"We managers can make the mistake of spending more time watching for the black swans than working to maximize our returns. Basically this increasing tendency is nothing but another type of benchmark hugging."

 

http://en.wikipedia.org/wiki/Somatic_markers_hypothesis

 

 

Fri, 01/28/2011 - 10:30 | 912637 Caviar Emptor
Caviar Emptor's picture

The 'black swan' 'white crow' argument misses an essential point (through lack of understanding): when cycle of social discontent begin, the focus and interpretation of such events differs sharply from the way the same info would have been processed prior. One way to understand this is the old adage that 'people see what they want to see'. But it's a whole lot more than that. When social discontent and unrest picks up nobody even cares if a better flat screen comes out, or a cheaper iPhone, or even a major scientific breakthrough or discovery. There were major such breakthroughs all through the 1930s and 1960s. People can even turn anti-science, anti-tech, anti-education, anti anything and everything. Whereas before they would have marveled and delighted at a new recipe for pasta 

Fri, 01/28/2011 - 10:39 | 912671 oh_bama
oh_bama's picture

see! The model says BUY, which means BTFD!!

Fri, 01/28/2011 - 10:49 | 912707 Ferg .
Ferg .'s picture

I'm starting to waver on my dollar bullish sentiment . DXY is slipping slowing  and many USD crosses are at important technical levels . Crunch time especially for USD/JPY and EUR/USD . Either they reverse here or they blast through their respective barriers ( 61.8 % Fibo + horizontal resistance ) . Same applies to equities . S&P at 1300 and DJIA at 12,000 . Big levels . We either breakout or we head south . In all cases though the decisive move is imminent .

Fri, 01/28/2011 - 11:23 | 912888 edmondantes
edmondantes's picture

Yes, well the German stock market went up during the Weimar inflation... I wonder if the persistent rise in stock prices in the face of total stagnation in the 'real' economy (such as there is one) is actually simply an early manifestation of hyperinflation...

Fri, 01/28/2011 - 11:40 | 912966 Hollow_Point
Hollow_Point's picture

A Black Swan event can be an outlier either way- positive or negative. No such thing as as white fucking crow. Just sayin'.

http://en.wikipedia.org/wiki/Black_swan_theory

Sat, 01/29/2011 - 11:02 | 915860 DavidC
DavidC's picture

Spot on Hollow_Point,
I was looking through the comments before writing exactly the same myself - a black swan is an outlier event and one that is unexpected and unseen.

If everyone is expecting a/the crash, that's hardly an outlier event - which is not to say it won't happen, it's just NOT a black swan either.

DavidC

Fri, 01/28/2011 - 13:12 | 913470 Grand Supercycle
Grand Supercycle's picture

The equity rally since Aug 2010 continued for a few months longer than I expected – similar to what happened after I began my warnings in early 2007 but the market decline didn’t start until mid 2007.

Despite market intervention/QE – natural market forces can not be stopped – only delayed.

When the market does reassert control (soon) - the reaction (the overdue correction) may be even more extreme due to that delay.

And some may refer to it as a Black Swan.

http://stockmarket618.wordpress.com

Sat, 01/29/2011 - 11:07 | 915864 DavidC
DavidC's picture

No. The reaction MAY be more extreme due to the delay, that I do agree with. But a Black Swan is an outlier event - an unexpected or unseen event that causes a reaction. What you're describing - and you say so yourself - is 'natural market forces', not a Black Swan.

DavidC

Fri, 01/28/2011 - 13:34 | 913580 downrodeo
downrodeo's picture

Zoot suit riot

throw back a bottle of beer

Zoot suit riot

Pull a comb through your black-swan hair

Fri, 01/28/2011 - 14:34 | 913831 gwar5
gwar5's picture

There's always a bull market somewhere.

Buy into essential commodities. Extreme events make extreme markets.

Jack be nimble, Jack be quick, never mind the Wall street pricks.

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