Is Volatility Risk?

"Traders can cause short-term volatility.  in the long run, the market must revert to a sensible price/earnings multiple." - Ben Stein

"Never think that lack of variability is stability.  Don't confuse lack of volatility with stability, ever." - Nassim Taleb

"We are facing extreme volatility." - Carlos Ghosn

Modern society has determined that it has the tools to smooth out volatility.  We can witness these efforts at work in government, central banks, medicine, work and even at home.  The question is whether all of this effort to alleviate day to day variability is beneficial or is this massive effort really the cause of all the pain?

As we all know volatility is a movement around a so called norm or trend.  In stocks volatility is seen as large movements in the price of the stock either up or down away from the trend line of mean.  In most cases people ignore the large upward move as that more often than not is a benefit so beneficial movements (even though they are volatile) are considered good and are ignored.  The same can be said for the economy, accelerating economic growth is considered acceptable but as with stocks excessive acceleration is worrisome and in most cases is met with a central banker that tries to slow the growth to a more "normal" level.

Most people consider volatility associated with their paycheck as bad but some of us (normally the entrepreneur) loves this volatility as it offers the opportunity to make a lot more money.  Vaccines are constantly being created and worked on to protect the world against disease and cleaning agents try to eradicate germs.  Governments that are rouge are taken out and replaced with more conservative middle of the road ideals and mothers and fathers around the world try to protect their kids from bully's and nurture them in a way completely different from the real world.

The problem with all of this is that we evolve through volatility.  Germs become stronger to fight back against the newest drug, they evolve into ever more powerful aliens that kill more people in hospitals than in motor car accidents.  Puppet governments fall apart in time as given complete power they ultimately fail through lack of attention to detail and a sense of self-entitlement.  Take Mugabe and Saddam Husein as two people placed into power by the United States to maintain the peace.  There are obviously more examples of people placed in power by countries other than the United States but these are two readily available examples.  Our DNA advances by learning from previous generations and fixing those weaknesses (only the strong survive).

Central governments are continually tinkering with the markets to create a "normal" environment so that in the end no-one knows what "normal" really is.  What we do know is that these efforts to placate the markets has always ended in more bloodshed than if the markets were left to their own devices.  Furthermore each time the market collapses the reserve bankers step in to try to "repair" the problem by adding liquidity or artificially moving interest rates which causes another problem elsewhere.

Now before you think I am advocating the complete removal of all government bodies and to live like John Lennon says we should in his song Imagine, I am not.  There is a place for authorities to monitor certain situations and prevent a complete collapse caused by crowd hysterics or to provide law and order but outside of that framework the markets need to be left to handle themselves.  Consider if Greenspan had not provided support for the Internet bubble.  Meddling to save the market created the low interest rate environment which caused the housing bubble which has now lead to the largest experiment known to man.  What would the real implications have been to let the technology bubble burst?  The collapse of the banking system in 2007 was far more serious than the original problem and now that we have propped up that mess with $4 trillion no-one can even fathom a guess at the problems this will cause.

On a separate note, my friend John Cox is advocating a larger government body to repair the broken political system that is California.  While on the surface this idea appears to be madness, in effect what he is offering is more volatility at the local level to ensure less trouble at the top thereby actually repairing the problem caused by too much power in the hands of too few people.  This type of system is working admirably in other parts of the globe (Switzerland to name one) and could be what we need but moving the mindset of the average citizen will be a monumental task so if possible given him your support.

In conclusion, small, regular amounts of volatility is the ingredient that alleviates massive economic and political turmoil.  Trying to end small uncomfortable problems associated with volatility causes greater global imbalances and will result in greater problems.  Until we can accept this and change the way that problems are dealt with, the future will continue to be filled with large economic shocks to society at regular intervals.  It is inevitable and unavoidable and as this idea is imbedded in most political parties around the globe (China included) the only thing we can do is prepare for large scale shocks in the future.