The Psychic Prison

AlcatrazIsland_TheRock

The first self-archetype is merely the subset of James’ blooming, buzzing confusion that we classify into our mind’s “I.” It is extraordinarily hard to redraw this boundary later in life. Hallucinogenic drugs, intense stress, sensory deprivation chambers, or the rigors of meditative practice are usually required.

Venkatesh Rao, Tempo

Freedom’s just another word for nothin’ left to lose.

Kris Kristofferson, “Me And Bobby McGee”

John Patrick Mason: Your “best?!” Losers always whine about [doing their] best. Winners go home and f*** the prom queen.

The Rock (1996)

This is going to be one of those abstract, philosophical posts. Consider yourself warned. However, portions will tie in rather neatly with investing. So you may want to stick around. I’m also going to try to write with as much clarity as possible here, because the concepts I want to explore in this post are fundamentally weird. In order, they are:

  1. Identity functions as a psychic prison.
  2. To have any chance of escaping the psychic prison of identity, we must to cultivate the ability to redraw the boundaries of the self.
  3. Therefore, freedom is, at a fundamental level, the ability to participate as a principal in the process of creative destruction.

Let’s start at the beginning.

The Psychic Prison

There’s a well-known quote from the book (and movie) Fight Club: “the things you own, end up owning you.” The idea is that over time you settle into a pattern of consumption. You stagnate within this pattern. After a while, it is impossible to determine whether you define your pattern of consumption or whether your pattern of consumption defines you.

I’ll take this a step further and suggest the following: the thoughts you think, end up thinking you. That is to say, you think your “self” into existence.

We’ve all met someone who’s chronically negative. That person who’s always put upon, who’s always sick, who’s always short on cash or the victim of sinister forces outside her control. That person who spends her life lurching from one crisis to the next. At times it seems as though she’s the physical manifestation of negativity and misfortune in the world.

It seems that way because it’s true. That person truly is a physical manifestation of negativity and misfortune. While plenty of her misfortunes may well be beyond her control, she’s also co-creator of the misery in her life. She has chosen to define her life with negativity. Now, she may not see this as a choice. (In fact, she almost certainly does not) Stuff just happens to her. But allowing yourself to fall into the posture of a chronic victim is itself a kind of choice.

The thoughts you think, end up thinking you.

You are the co-creator of your lived experience.

If you find yourself attracted to value investing, and you come to identify strongly as a “value investor,” in addition to whatever financial returns you generate that identity probably gives you a sense of meaning and maybe even a sense of community or belonging (if you don’t see Berkshire Hathaway’s annual meeting as a form of religious pilgrimage I’m really not sure what to tell you). Your value investor identity also frames your worldview a certain way. It limits your worldview in certain ways. This can be a liability, if your value worldview is fundamentally misaligned with the prevailing market regime. In this case your identity may well turn out to be a form of maladaptation.

A static identity locks you into particular patterns of thought and behavior. These patterns are relatively straightforward for others to identify and exploit, whether in business, politics or investing.

This lock-in is what I mean by psychic prison.

Escaping The Psychic Prison

Escaping the psychic prison of identity is straightforward but not easy. All you have to do is redraw the boundaries of your identity.

This lies at the heart of zen practice, adjacent to the idea of non-attachment. After years of practice, a zen master might be able to completely erase his attachment to self–a process that might trigger a complete mental breakdown for someone unprepared for the experience. What might this feel like? Having not experienced the feeling of complete dissolution of self, I’m hardly qualified to describe it.

Fortunately, complete dissolution of the self isn’t required to break out of the psychic prison of identity. All that’s needed is the ability to consciously rewrite the boundaries of identity.

Meditation is one way to practice this. Another is acting.

Our value investor might begin working on his escape from the limiting aspects of that identity by play-acting at growth or momentum investing. This doesn’t mean completely abandoning the tenets of value investing. It merely means cultivating the ability to view the world through someone else’s eyes. It’s merely about wearing the mask of a growth investor. At least to start, anyway.

The things you own, end up owning you.

The thoughts you think, end up thinking you.

The masks you wear, end up wearing you.

Ultimately, there’s no difference between you and the masks you wear. You are the masks you choose to wear. For some this is a frightening possibility to consider. Particularly from a metaphysical perspective. However, it’s also empowering.

Remember, you get to choose the masks you wear. That’s the point of this post.

The Nature Of Freedom

True freedom is freedom from an arbitrary or externally defined definition of self. It’s engaging in the process of creative destruction.

Personal freedom is engaging in creative destruction at the level of the self. Economic freedom is engaging in the process of creative destruction in the external world. When I say engage in I mean engage in as a principal, as a force acting on the world around you. Like it or not, we’re all subject to the process of creative destruction. The difference between freedom and slavery is agency.

This is the reason I included that quote from The Rock at the start of this post. It cuts to the very heart of what it means to be free. Free people manifest their will in the world around them. Losers whine about doing their best.

The archetype of the chronically negative loser described at the beginning of this post is especially grim. Here is a person who cannot even rise to the level of whining about doing her best. All she can do is whine about being a victim.

By contrast, by this definition, Frederick Douglass was probably freer as a slave than most nominally “free” people are today. It’s not an accident that one of Douglass’s most famous sayings is the statement that “knowledge is the pathway from slavery to freedom.” There is a reason slave owners did not want their slaves to learn to read.

In this spirit I’ll close with an excerpt from Douglass’s speech, “Self-Made Men,” which I recommend you read in its entirety.

I am certain that there is nothing good, great or desirable which man can possess in this world, that does not come by some kind of labor of physical or mental, moral or spiritual. A man, at times, gets something for nothing, but it will, in his hands, amount to nothing. What is true in the world of matter, is equally true in the world of the mind. Without culture there can be no growth; without exertion, no acquisition; without friction, no polish; without labor, no knowledge; without action, no progress and without conflict, no victory. A man that lies down a fool at night, hoping that he will waken wise in the morning, will rise up in the morning as he laid down in the evening.

Faith, in the absence of work, seems to be worth little, if anything. The preacher who finds it easier to pray for knowledge than to tax his brain with study and application will find his congregation growing beautifully less and his flock looking elsewhere for their spiritual and mental food. In the old slave times colored ministers were somewhat remarkable for the fervor with which they prayed for knowledge, but it did not appear that they were remarkable for any wonderful success. In fact, they who prayed loudest seemed to get least. They thought if they opened their mouths they would be filled. The result was an abundance of sound with a great destitution of sense.

334px-Frederick_Douglass_(circa_1879)

A Pause For Reflection

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It’s a bit hard for me to believe but I’ve apparently published 200 posts on this blog since I started writing it in September 2017. When I got this notification it prompted some introspection. I went back to my very first post, Zen & The Art of Investment Research. There I articulated a hazy vision for the ideas I wanted to explore here, writing:

Some people will argue there are compliance procedures like departmental firewalls to prevent conflicts of interest from influencing analysts’ recommendations. To which I would respond with The Golden Rule: He Who Hath The Gold, Maketh The Rules.

You may quote me chapter and verse from a compliance manual. I do not care what is written in someone’s compliance manual. In practice, if ever there is a dispute between a profit center like an investment banking group and a much smaller profit center (or, god forbid, a cost center) like a research group the profit center will win out every time.

Examining applications of The Golden Rule throughout history and contemporary events is part of what this blog will be about. This blog will also be about exploring the way the world works, through the lens of The Golden Rule, without needing to worry about where we end up and whether our conclusions might cost us our jobs.

One of the things that drew me to investment research is that in its purest form, it provides clears incentives, both positive and negative, for intellectual honesty, regardless of whether something makes you uncomfortable ideologically.

I think I’ve done a pretty good job executing on that vision over the last year and a half, though my reading and writing have gradually drifted from “pure” finance and economics to more of a focus on narrative abstraction, and how narrative abstraction is used to shape financial markets (not to mention our world). I expect this to continue to be my focus for the foreseeable future.

Something I’ve spent more and more time thinking about lately, especially as Demonetized has attracted a (very small) audience, is what I want this blog to be.

One thing I’ve decided it will not be is a business. Will I potentially write other things that I’ll attempt to sell? Yes. But this blog will remain Demonetized (actually more like un-monetized). I’ve got two major reasons for this.

First, this blog doesn’t lend itself to monetization. Maybe some affiliate links. But the writing itself isn’t the kind of (shudder) “content” that works as a product.

Second, I want this blog to be a place where I can follow my interests as they evolve over time.

Something I’ve observed studying narrative is that if you’re a public intellectual, and you make a living as a public intellectual, you essentially become locked into a particular shtick over time. This isn’t necessarily grifting (though it can be). It’s a function of the fact that your followers customers sketch out mental models of you over time. These models aren’t robust. They’re brittle. They fuel what my friends at Epsilon Theory call the game of you: “mirror” or “rage” engagements.

What brings out the real emotion and the real confusion is when a mirror engagement goes awry. It’s also confusing when a rage engagement goes against type and agrees with you on something, but the reaction isn’t upsettedness … it’s boredom. The emotion when a mirror engagement goes against type is much more pronounced, much more urgent. It’s a betrayal.

Not a big betrayal. Not a personal betrayal. Not (usually) a permanent betrayal. It’s not even a Heel Turn, to use the pro wrestling phrase, when a Baby Face (a good guy) flips the script and becomes a Heel (a bad guy) in some shocking plot twist.

No, it’s more like when your favorite sitcom has a “very special episode” where they deal with some social issue du jour in a “serious” fashion that of course you find cringe-worthy. That’s not what you want from Three’s Company!

When you’ve got a dedicated audience (or maybe an anti-audience, if you tend to attract rage engagements), the audience isn’t drawn to you (a complex individual who is likely to change over time), but rather a cartoon of you (a sketch that’s appealing on the basis of prospective mirror or rage engagements). It’s this cartoon that’s brittle. Evolve your views and interests “against type” and you risk breaking the cartoon. You risk losing your audience. Not to mention your revenue.

This incentivizes stagnation.

And stagnation is the opposite of what I’m trying to achieve here.

So over time I will go where curiosity takes me, albeit with an emphasis on ideas connected to finance, economics and geopolitics.

Maybe I’ll pause to reflect again in another couple hundred posts.

ET Note: The Grand Inquisition

Below is the teaser for my latest Epsilon Theory note. The piece is a meditation on freedom, through the lens of Dostoyevsky’s parable, “The Grand Inquisitor”:

The Nudging State and Nudging Oligarchy believe they are giving us a gift: Freedom from Choice.

Except that it is neither a gift nor freedom in any sense. Rejecting it isn’t always easy and it isn’t always costless. But it’s the only choice for anyone who would be free.

Click through to Epsilon Theory to read the whole thing.

There’s an idea embedded in this note, related to the specific mechanism through which the Nudging State engages in social engineering, which is worth making more explicit. I’ve written around the edges of it before on this blog, in The Tyranny of Optimization, when I wrote:

Here you’re not staring down the barrel of a gun but rather at a smartphone screen. Here, the trick is not only convincing people to buy into your optimization, but that buying in was their idea in the first place. This is tyranny updated for the 21st century. Much cleaner than putting people up against a wall.

What I’m describing here is what my friends at Epsilon Theory call “fiat thought.” These are thoughts and behaviors you believe are your own, though in reality they’ve been engineered by the Nudging State and the Nudging Oligarchy to promote some policy or behavior.

How do you test for fiat thought?

Ask why.

“Why do I believe [whatever]?”

For fiat thought, the answer is always some permutation of “because someone told me so.” Maybe that’s a politician. Maybe it’s a business leader. Maybe it’s a public intellectual or “thought leader.” Maybe it’s a go-to media outlet (or several). Bottom line is you won’t have a principles-based reason for believing whatever is at issue.

Having your thoughts replaced with fiat thought is perhaps the purest form of slavery I can imagine. It’s like being transformed into a pod person, except you don’t even realize the transformation is taking place. In fact, to the extent you notice the transformation at all, you’ll believe it was your own idea. This is the nature of “choice architecture.” It’s a kind of rigged game–a simulation of free will.

In reading some of the responses to my note, there are a couple common threads:

  1. Aren’t constraints on our behavior necessary to some extent to have a functional society?
  2. Most of the folks who serve the State do not have malicious intentions and are sincerely doing the best they can to balance tradeoffs when making policy.

These are both excellent points. I totally agree with both of them.

Constraints on our behavior and incentive systems are terms we negotiate as part of the social contract. The negotiation process is ongoing and dynamic. It never ends. An important aspect of freedom is the ability to participate in the negotiation process as a principal. “Nudgers” do not treat us as principals. Nudgers treat us as biological systems to be engineered.

The Tyranny of Optimization

Nature smiles at the union of freedom and equality in our utopias. For freedom and equality are sworn and everlasting enemies, and when one prevails the other other dies […] To check the growth of inequality, liberty must be sacrificed, as in Russia after 1917. Even when repressed, inequality grows; only the man who is below the average in economic ability desires equality; those who are conscious of superior ability desire freedom; and in the end superior ability has its way. Utopias of equality are biologically doomed, and the best that the amiable philosopher can hope for is an approximate equality of legal justice and educational opportunity.

–Will & Ariel Durant, The Lessons of History

When I was younger, I used to believe strongly in what I’ll call “technocratic optimization.” In my view, the Big Problems confronting civilization could be tackled through the decisive application of computational power and human intellect. The idea was that if you got all the smartest people working on all the hardest problems eventually you could solve them. You would discover Truth with a capital T. The rest would take care of itself.

I was a fool to believe this.

Human societies don’t run like giant mean-variance portfolio optimizations, where each individual can be reduced to a personal utility function, then aggregated and mapped to a kind of efficient frontier based on the available resources. Human societies are dynamic systems. These systems are constantly evolving in the face of environmental and social pressures. Whenever we attempt to optimize social and economic systems, our models inevitably end up either overfit or underfit. Hence the abundance of “unintended consequences” that accompany major policy changes.

But here’s the biggest problem with technocratic optimization: even in the best of circumstances, where it’s reasonably self-evident, the mere existence of Truth with a capital T is insufficient motivation for people to change their behavior. As Upton Sinclair famously wrote: “it is difficult to get a man to understand something when his salary depends on him not understanding it.”

So what’s a frustrated optimizer to do?

Well, you can force people to buy into your optimization. Or, you can convince them to buy into your optimization. Or, you can convince them to buy into your optimization by leveraging technology and their behavioral biases (a much better bet than simply relying on the merits of your argument).

If you’re an optimizer, your intellectual journey ends in tyranny.

Russland-Nord, Erschießung von Partisanen

Now, there’s certainly the concentration camp and NKVD firing squad kind of tyranny we’re acquainted with from 20th century history. All very messy. Fortunately, we now have kinder, gentler forms of coercion available to us.

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The social credit system kind of tyranny, and the fiat news kind of tyranny, for example. Here you’re not staring down the barrel of a gun but rather at a smartphone screen. Here, the trick is not only convincing people to buy into your optimization, but that buying in was their idea in the first place. This is tyranny updated for the 21st century. Much cleaner than putting people up against a wall. Once you start looking for it, you see it everywhere.

So, what’s a reformed optimizer to do?

Personally, I’ve gone back to the Lessons of History, and the collective experience of human civilization. I’ve abandoned the view we should try to engineer “optimal” outcomes for individuals or society. I’ve come to believe that rather than engineer Answers, we should focus on the maintaining and improving the integrity of our Processes: the approximate equality of justice and educational opportunity.

I’ve also abandoned the idea that human civilization progresses on a linear trajectory, or, more precisely, that human civilization can progress along a linear upward trajectory. In reality, things move in cycles and mini-cycles. These cycles are driven not only by changes in the natural world, but also the constant friction generated by individuals and states in competition for power and resources.

Put another way: we oscillate between freedom and tyranny, and between varying levels of equality and inequality over time. This is natural and inevitable (which is not to say it’s “pleasant” or “ideal”). We’ve been fortunate that the general trend over time has been upward. That doesn’t mean we’ll never experience another period of dramatic upheaval and regression a la the Dark Ages.

I believe we should be much more concerned with managing the risks inherent in sudden paradigm shifts such as the French Revolution, Russian Revolution, and the spike in aggressive, authoritarian nationalism that occurred in the 1930s.

In finance nerd terms: mind the tails.

We’re not doing a very good job minding the tails right now. In optimizing for short-term economic growth, our default fiscal policy of every-increasing borrowing and default monetary policy of “plunge protection” (a.k.a The Greenspan/Bernanke/Yellen/Powell/Draghi/Kuroda Put) have provided economic and financial market stability at the expense of political and social stability. One of the most powerful voices in our political discourse today is a freshman rep who is an avowed democratic socialist (whatever that’s supposed to mean). If you can’t see how this relates to the legacy of the financial crisis; the legacy of quantitative easing; the deflationary impact of globalization and technological innovation–well, if you can’t see how all this interrelates, I’m not quite sure what to tell you.

You can’t destroy risk. You can only transform it.

That insight is in short supply among technocratic optimizers.

Why I Write

Since more people are reading and commenting on what I’ve written here lately, I’m moved to reflect on why exactly I do this. So here are some reasons I write:

I write as an outlet. I’m a bit of a crazy person. I start thinking about things and sometimes I literally can’t stop thinking about them until I write them out of my head. Even if no one ever read a single word I’d written, I think I’d have to keep on writing or lose my mind. This is the main reason I write.

I write to solidify and clarify my thinking. The posts on this blog fall on a spectrum somewhere between random thoughts jotted in a notebook and a more polished series of research notes (though they’re definitely closer to random thoughts jotted in a notebook). My writing on this blog tracks the evolution of my views over time.

I write (publicly) to “talk” with others who are writing and thinking about my areas of interest. Where I sit in the investment business, daily life has relatively little to do with better understanding the whys and hows of financial markets. It’s more about gofer tasks in support of the gathering and retention of assets. We spend a lot of time producing silly charts looking at random noise from different angles, because for the most part clients don’t want the truth. For all their faults, the internet and platforms like Twitter are “marketplaces of ideas” where we can think, analyze and discuss without every idea immediately being subordinated to internal politics.

I write to “own my record”, even if I choose to do it anonymously for now. Because, as Rusty Guinn writes here:

if you want to avoid the life of a professional bullshit artist or a life resigned to charlatanry, the secret is not to hide in an introverted shell trusting that your good work will out. The secret – if we can truly call it that – is to act boldly while cultivating an unceasing, insatiable, transparent willingness to consider all the ways you might be wrong.

I’m not holding myself up as a shining example of the above. But it’s definitely an aspirational goal.

Finally, and most importantly, I write because I enjoy it.

You Can’t Borrow Conviction

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Source: David Palumbo

“Nowhere left to go,” Barlow murmured sadly. His dark eyes bubbled with infernal mirth. “Sad to see a man’s faith fail. Ah, well…”

The cross trembled in Callahan’s hands and suddenly the last of its light vanished. It was only a piece of plaster that his mother had bought in a Dublin souvenir shop, probably at a scalper’s price. The power it had sent ramming up his arm, enough power to smash down walls and shatter stone, was gone. The muscles remembered the thrumming but could not duplicate it.

[…] And the next sound would haunt him for the rest of his life: two dry snaps as Barlow broke the arms of the cross, and a meaningless thump as he threw it on the floor.

[…] “It’s too late for such melodrama,” Barlow said from the darkness. His voice was almost sorrowful. “There is no need of it. You have forgotten the doctrine of your own church, is it not so? The cross… the bread and wine… the confessional… only symbols. Without faith, the cross is only wood, the bread baked wheat, the wine sour grapes.”

–Stephen King, ‘Salem’s Lot

Whenever the market falls, you start to see symbol-waving. This famous Charlie Munger quote about equity drawdowns, for example:

If you’re not willing to react with equanimity to a market price decline of 50% two or three times a century you’re not fit to be a common shareholder, and you deserve the mediocre result you’re going to get compared to the people who do have the temperament, who can be more philosophical about these market fluctuations.

This is core doctrine for the Church of Value Investing. It works for Charlie because Charlie has Faith. Unfortunately, many of us who wave the symbols of Buffett and Munger in the face of Scary Things do not, in fact, have Faith. We fancy ourselves members of the Church of Long-Term, Buy & Hold Investing when times are good. But when things go bump in the night, we find ourselves waving cheap plaster crosses at the drawdown monster.

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And it works about as well for us as it did for Father Callahan.

So we make arbitrary changes to what are meant to be long-term asset allocations designed to capture structural risk premia. We fiddle with exotic alternative strategies we don’t properly understand. We sell to cash without any idea how we’ll convince ourselves to buy back in. We seriously damage our chances of achieving our long-term objectives.

This chart?

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Source: CRSP

This chart is a plaster cross. I show it specifically because it’s the most common exhibit financial advisors use to harp on “a long-term view” in client presentations.

But if you don’t believe equities should earn a structural premium over gold or T-bills or credit over very long periods of time, this chart will do nothing whatsoever to help you when your equity holdings halve. Same if don’t believe your portfolio has enough of a liquidity buffer to withstand a lengthy drawdown. You will waver. The drawdown vampire will snap your plaster cross and eat you.*

How do you build Faith?

Honestly, I had only the vaguest idea how to answer that question, so I punched it into Google and found this article (no idea what The Living Church of God might be–link isn’t an endorsement). Suggestions include:

Prove what you believe (or try to, anyway).

Study what you believe.

Endure the trials that arise as you go.

Because ultimately, there are no shortcuts to Faith.

Faith is a Process, not an Answer.

You can’t borrow conviction.

 

 

*Yeah, I know Barlow doesn’t actually kill Father Callahan in ‘Salem’s Lot. ‘Salem’s Lot purists can extend the metaphor and imagine the drawdown vampire turning them into unclean market-timers, doomed to wander the earth for all eternity with low returns and even less credibility.

Pity The Fools

Pity the babies of 1987 and 1990, then, who left school or university around the time that Lehman Brothers collapsed in 2008. Sending around a CV in the middle of the greatest financial crisis since their grandparents were born cannot have been a whole lot of fun.

That’s Tim Harford writing in the FT. As one of those babies of 1987, I can assure you it was indeed hell to send out resumes in the middle of the greatest financial crisis since my grandparents were born.

There are a lot of good articles out there about how your lived experience in markets and the world shapes your behavior. Here’s an especially good one from Morgan Housel.

So how did the financial crisis shape me?

Mainly, it made me paranoid.

It taught me talk is cheap.

It taught me no one’s entitled to a happy ending.

It taught me that money talks and bullshit walks.

It taught me you can do business with people who wield power and influence, you can respect people who wield power and influence, but you should never trust people who wield power and influence.

Most of all it taught me that at the end of the day, the only things you should count on are your skills and your character.

Don’t get me wrong. People can be wonderful. I’ve benefited from the support of many individuals who took an interest in my career development over the years. I will always and ever be grateful for the opportunities they offered me. Particularly in the early days, when I was a poorly-credentialed career changer with the wrong resume.

But here’s the thing about people. You can’t control their behavior any more than you can control the macroeconomy.