Best Life - April 2009

insists we order a large cheese plate (no bread). Despite being a reluctant master of the universe, he is also a normal guy who is worried about his weight. “I really don’t want the pictures you guys take for this profile to make me look fat,” he confides. He moans about photos that appeared recently in Bloomberg magazine. “They looked fat! I’m not that fat!” It’s true, Taleb is trim, which means he must be hovering below 198, the weight at which (he claims) he begins to look portly. “I’m starving now,” he says, tucking into mounds of luscious cheese. “But later, I won’t eat anything for dinner.”

Extremism is in Taleb’s DNA. Born into a prominent Christian family in Lebanon (his grandfather was the minister of the interior), he watched as his family lost everything during the civil war that broke out in 1975. Schools were closed, and the teenage Taleb spent months holed up in the basement, avoiding the ceaseless mortar fire and reading hundreds of books on everything from German philosophers to World War II history. In The Black Swan, Taleb recalls family members telling him that the war would last “only a matter of days,” assuring him that the fighting in Lebanon would be different from the revolutions in Cuba and Iran, which drove millions from their homelands forever. In fact, the Lebanese civil war lasted 15 years, creating a class of melancholy expatriates such as Taleb’s grandfather, who lived out his days in exile in Athens. “It’s the worst thing to see someone in poverty,” says Taleb quietly.

The episode was Taleb’s first inkling that following the herd can have disastrous consequences. “In spite of [my grandfather’s] position,” he writes in The Black Swan, “he did not seem to know what was going to happen any more than did his driver, Mikhail.” The difference, notes Taleb, is that while cabdrivers didn’t presume to be experts, elites assumed their insider knowledge had predictive value. This leads people to make foolish assumptions, e.g., that a war will be short-lived or that housing prices will always go up.

This insight led to another Taleb maxim: Don’t trust anyone in a tie. “You have to ask yourself why he is wearing a tie,” he says. “More often than not, he’s not an expert. He

the black swan hunter

Investor Jeremy Grantham predicted the crash. Here’s what he sees happening next.

Among Nassim Taleb’s many fans, one of the more interesting is legendary hedge-fund investor JEREM Y GRANTHAM

. “I think the Black Swan is a terrific idea,” says Grantham, referring to the central metaphor in Taleb’s book, the idea that we are unprepared to deal with rare but devastating occurrences. “People completely miss the point of ‘outlier’ events.” But Grantham’s view of the recent market meltdown diverges from Taleb’s by a few degrees. Taleb maintains that the crisis was akin to a Black Swan, a bird that was said to be an impossibility… until one was discovered. But Grantham says the crash was no surprise at all; he sees the bubbles leading up to the crash as the once-in-a-lifetime, or outlier, events. Like Robert “Irrational Exuberance”

Shiller, Grantham had been saying for years that the U.S. housing market was a very clear bubble, with prices hovering around 30 percent above a previous trend line. “And just as all bubbles inevitably break, so did this one,” he says.

While Taleb’s thesis is that Black Swans are hard to predict, Grantham says you could see this one coming a mile away. Grantham’s view of the market is based on the idea of reversion to the mean; in the long-term, asset prices follow a trend line, and all those peaks and valleys inevitably return to trend. Not only were home prices way above their typical averages before the crash, but so were lots of stock indicators. For example, back in 2001, the value of the S&P 500 was running at more than two times its normal average, and even after the

Internet bubble burst, Grantham proclaimed that the market had not gone down far enough to hit bottom.

In a sense, Grantham is Taleb’s optimistic alter ego. While Taleb stresses the fact that we lack information about the future, Grantham focuses on what he can predict. For years, Grantham said that the sky was falling. It fell, and now he’s somewhat bullish. Grantham, who protected his investors during the Internet bubble by shunning tech stocks, notes that price-to-earnings ratios are now at or below historic levels, and profit margins have returned to their normal, pre-bubble levels. He does caution, however, that when bubbles burst, the market tends to overcorrect, so while he thinks

investors who buy stocks now will be handsomely rewarded in the next five to 10 years, he says shares might go lower before climbing again.

Grantham strongly favors quality blue-chip stocks with low debt, which he thinks are

best positioned to weather a tough economy. Many of these—including Coke, Procter & Gamble, Johnson & Johnson, Wal-Mart, and Microsoft—are cheap right now relative to the overall market. Longer-term, Grantham also likes emerging-

market stocks. “These are going to be rocky for another year or two, but the underlying growth story in these markets is still very strong.” He sees emerging markets coming back to annual returns of 10 percent or more within the next seven years. R .F.

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THE BUBBLE FINALLY BREAKS
S&P 500: 1992 TO OCTOBER 10, 2008

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trend line

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92 94 96 98 00 02 04 06 08

THE CHART, COURTESY OF MONEY-MANAGEMENT FIRM GMO, SHOWS THAT THE U.S. STOCK MARKE T WAS OVERVALUED FOR 12 YEARS UNTIL LAST FALL, WHEN IT FINALLY CROSSED BELOW WHAT GMO CALCULATES TO BE THE MARKET’S LONG-TERM TREND LINE. IN OTHER WORDS, STOCKS ARE FINALLY CHEAP AGAIN.