Safe Haven. Mark Spitznagel
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be sure, I have no interest in changing the existing investing paradigm by making it obsolete. I'm no pied piper, and I harbor no delusions of grandeur that the message of this book will ever become “the new gospel according to Mark.” I do not expect for one moment that my approach will ever become another cookie‐cutter, rubber‐stamped strategy of the investment consultant herd. And that's important. Becoming conventional is self‐defeating in this business. It's the kiss of death. We take the road less traveled by, and that has made all the difference.
I have often exclaimed to my team at Universa, plundering the words of Steve Jobs, “We are pirates! Not the Navy!” (Mine are the smartest, savviest, and most experienced Great Pirates in the derivatives world.)
WHAT'S A SAFE HAVEN?
Everyone has some intuitive understanding about what a safe haven is and why we would invest in one. Most likely, it would go something like “a place of refuge for when things go bad” or, more specifically, “an asset that provides safety from risk.” These are spot on. The term risk would likely mean scary things like stock market crashes, financial and banking crises, pandemics, monsters hiding under the bed, and so forth. Risk, then, is circularly defined as that equivocal thing we need safety from.
Plain and simple, risk is exposure to bad contingencies. Most of these bad contingencies will likely never happen, but they can happen. In investing, the bad contingencies have financial consequences of economic loss within a portfolio. Investment risk isn't just some theoretical and spurious numerical value, like volatility or correlation or whatever. It is the potential for loss, and the scope of that loss. Nothing else.
We have many diverging roads ahead, many potential paths forward with so many twists and turns, more than we can ever count. Some of those potential paths will be very pleasant, and some of those potential paths won't be. Of all the potential paths, we don't know which is the one and only path that we will actually traverse. Now, that's risk!
A safe haven is an investment that mitigates risk, or the bad potential economic contingencies in your investment portfolio. That is a necessary condition for safe haven status. It protects against consequential loss that happens to everyone, everywhere, all at the same time, because that loss is tied to the cycles of broad macroeconomic growth and contraction. Because of its ubiquitous and systematic nature, you can't just diversify that risk away with groupings of things that supposedly won't experience such loss simultaneously.
And remember this: A safe haven isn't so much a thing or an asset. It is a payoff, one that can take many different forms. It might be a chunk of metal, a stock selection criterion, a crypto‐currency, or even a derivatives portfolio. Whatever forms they may take, it is their function that makes safe havens what they are: They preserve and protect your capital. They are a shelter from financial storms.
So safe haven investing is risk mitigation. To me, these two terms are synonymous, and I will be using them interchangeably throughout this book. (The former made for a catchier title.)
What's more, risk mitigation is investing itself. Treat this as a fundamental premise. Even the most renowned proponent of the bottom‐up approach to investing, Benjamin Graham, the “father of value investing,” declared: “The essence of investment management is the management of risks, not the management of returns. Well‐managed portfolios start with this precept.” Moreover, “Confronted with a challenge to distil the secret of sound investment into three words, we venture the motto, Margin of Safety.” Truer words have never been written on the subject. For Graham, “safety of principal” is what separates investing from speculating. It makes investing—investing! (He learned the hard way, in the 1929 stock market crash, that all great ideas can be dashed, simultaneously and systematically.)
But this is the pretty obvious part. It still misses what's so special about what a safe haven should be. Any punter can devise something that does well in a financial crash. Safe haven investing is so much more. And this is where they start to look really different from each other—so different that our classification that would put them all in the same category starts to lose its meaning. Often, they are more different than they are alike. We run into issues similar to what biologists encountered when trying to define what a species is. We will need a specific safe haven concept—like their species concept—in order to classify them and evaluate if they are even what they claim to be. This will be a major line of inquiry in this book: Are safe havens a classifiable thing? And can they really add economic value?
THE GREAT DILEMMA
There is a monumental problem facing investors, the great dilemma of risk. If you take too much risk, it will likely cost you wealth over time. And at the same time, if you don't take enough risk, it will also likely cost you wealth over time. You are trapped in a “Catch‐22”: damned if you do and damned if you don't. Pick your poison. You can try calibrating between these two bad choices in hopes of finding a happy medium, but this still leaves you with a bad choice—it is still poison. Modern finance is really all about the quest for this theoretical happy medium, the supposed “Holy Grail of investing.” Despite this valiant quest and lofty name, the results have shown that this Holy Grail is a myth; the happy medium is not so happy, and it can even provide the worst of both worlds. And so, with this thinking, you are left with only one real choice: to make bold predictions and then roll the dice on them.
This great dilemma is the most important problem in all of investing; it is one that desperately needs solving. It is also the rationale for what I do as a hedge fund manager, and the reason for this book. Thanks to the sheer scale and scope of the problem, the stakes have never been higher. In particular, the broader problem is of liabilities exceeding assets, and this applies to mammoth pools of capital and even to individuals with small investment accounts. Just think of the massively underfunded public and private pension funds today, which must generate specific, high‐target rates of return over many years or else face insolvency as their liabilities consume their capital. They can't just hide away, idling in less risky assets in an impaired portfolio, or try to diversify away their risks; and yet investing in riskier assets brings, by definition, acute risks of unrecoverable loss. The standard approach to risk mitigation has really failed them—just as it has failed everyone. And the problem is only going to get worse. It is a looming, ticking time bomb.
The consequences of failing to solve the great dilemma of risk won't just appear as some abstract figures in the newspaper. They are all too real: people's savings wiped out, governments that must tax or inflate their economies to death—human tragedy with real economic consequences. This is not my opinion. It is just simple math.
This monumental problem is further complicated today by the massive distortions built up in global financial markets from years of hubristic monetary interventions by global central banks, enabling the reckless accumulation of debt and leverage. Though these distortions are on an unprecedented scale and are intricately related to the underfunding problem itself, they are nonetheless beside the point. They are both beyond the scope of this book (I have already written plenty about them elsewhere) and, most importantly, completely unnecessary to the book's message. I don't need to convince you of any ideological, Cassandra‐like premise that markets are risky so that you will accept my conclusions about safe havens. It will not matter to our methodology. We can and will remain agnostic, not roll the dice, and, most important, not predict.
To find a solution to this monumental problem, we need to reduce the costliness of risk—specifically the costliness of losses—and do so in a way that does not end up costing us even more. In other words, we need a cure that is not worse than the disease. Risk mitigation must be cost‐effective.
In this book, we will learn how finding that solution comes from recognizing that not all risks are created equal—because not all losses are created equal. They don't all add up cleanly in an accounting ledger. Therefore, we need to think about losses and our investment returns differently, through a different lens and a different framing.