Thursday, January 9, 2014

We Are All Narcissists Now

I remember a few years ago when markets were locked in a simple correlation: dollar down/equities up. The meme soon became an ironic inside joke: we are all currency traders now.
Rolling 50 week Correlation between Dollar Index and SP500

I didn't think of it much at the time, but that was also when precious metals momentarily became the most popular asset class.  It was not a coincidence that as the correlation paradigm ended, GLD was also in the process of topping.

We all love a good narrative, a logical story where everything is explained with no loose threads.  It of course needs to at least superficially match reality, but more importantly, the readers and listeners need the narrative to fit the other narratives that they have already connected with (we will get back to this).  In financial markets, this desire for packaged story-telling is even stronger.  Price movement causes winners and losers, and both camps look for stories to explain their predicament.  A lack of narratives implies randomness and randomness implies that they have all wasted their time playing the game, an unpalatable outcome regardless of money made or lost.  There is no ego boost for the winner.  He was not smart; he was lucky.  There is no ego defense for the loser.  Not only did he lose his money, he was so dumb that he mistook a slot machine for a prudent investment.  So when correlation between the dollar and stocks flipped to mostly negative starting with the 02 bear market bottom, we all began to look around for a story to tell ourselves.

The facts that were picked to concoct a story around were these: dollar was losing value to a basket of foreign currencies, boom/bust cycle continues with housing amid an underlying middle-class malaise, gold was going up, and post 08: quantitative easing and burgeoning federal deficits.  Thus a grand narrative was born, rivaling The Odyssey in scope and characters.  America was running out of money and the government and the Federal Reserve were desperately trying to keep the game going by monetizing the debt.  The market is only going up because dollars are worth less.  Sell everything else and buy gold to combat the coming (hyper)inflation from the mad money printing.

It was a seductive story even though the facts did not match up, but listeners connected to it emotionally because the narrative fit with the way they already saw the world.  Think about it: who are these people who own financial assets? Almost exclusively by the top 20%.  Perhaps the top 1% never needed to worry about finances as even their most extravagant extravagance could hardly make a dent in the wealth.  But the other 19% are by and large financially prudent professionals who have fuck you money, but not fuck everybody money.  The average person in the top 20% got there by working hard through college and beyond, and is generally all-around responsible with money.  A big part of this meta is the belief in sacrifice: by studying/working hard and not consuming 100% of his income, he can eventually grow their wealth and consume much more later.  This is how he saw the world and thus when he saw American government's largess, crony capitalist pigs of the top 1%, and the poor receiving entitlement checks, his unconscious told him there should be consequences.  This is where our narrative comes in: it affirmed that the world was indeed fair and the fiscally irresponsible, the corrupt fat cats, and the lazy shall soon bear their punishment.

What if our narrative didn't exist?  What if there was no punishment?  Then from his eyes, there is no cause and effect.  It was not only random, but grossly unfair.  He would have to contend with the fact that he sacrificed for no reason.  While he worked hard, others took advantage of the system and got further. But it's not about the money.  Instead, admitting this would have crushed his ego and shattered his identity as not only this means he is wrong about how the world works, it also implies that he is powerless in a capricious universe, a nobody.

The amazing thing is while you sit here reading this, you feel awesome that this is not you, but this is almost guaranteed you.  Certainly there are pockets of enlightenment that realize we are all bit players in a giant play, but 95% of us live life like it's a movie and we are the main characters.  And protagonists are never wrong, just misunderstood.  So the next time you feel strongly about something, ask yourself: do you really know what's going on or does it just fit your movie?