A new catalogue of risks has surfaced as we march into the new year, posing new challenges to the management of investments.
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The first risk is uncertainty. We don’t know what we don’t know, as the cliché goes. So we cannot be certain what those uncertainties are. When and how uncertainties - political, social, economic, technological disruptions - play out is beyond prediction. The odds of success or failure in investment decisions based on these uncertainties depend as much on judgment as luck. The best thing we can do is to systemise the decision-making process, to incorporate as many diversified variables as possible to construct a more reliable framework, which might complement the limited human cognition.
Traders work on the floor of the New York Stock Exchange at the start of the trading day in New York on 20 January 2016. The Dow Jones Industrial Average lost nearly 300 points in early trading in reaction to a drop in the price of oil, among other factors. Photo: EPA
The second risk arises from how uncertainties have upended conventional relationships. Inflation and unemployment, for instance, no longer moves along the classic Phillips Curve, while the correlations among stocks, bonds and currencies are showing unprecedented new patterns. Economic and investment cycles have been redrawn by mysterious dark forces. There are so many dilemmas, trilemmas and paradoxes that many of the generally accepted and applied economic models and theories have entirely or at least partially lost their credibility. We need urgently to develop new theories and to construct new models to capture and deal with these unprecedented phenomena. Unlike natural science, economics and finance are supposed to be highly adaptive to reality. In the meantime, we need to carefully study the newly emerged investment styles including smart beta, and index-linked exchange traded funds (ETFs). We need new risk management tools to better cope with the new paradigms.
Chinese butchers tend their stalls in a market in Beijing on 9 August 2017. China's July 2017 consumer price index (CPI) rose 1.4 per cent in July from a year ago, according to the National Bureau of Statistics. Photo: EPA
The third risk is posed by technological disruption. Wall Street and the City of London are crammed with Ivy League MBAs and economic majors, because investment decisions of the past mainly revolved around financial considerations.
Nowadays, new technology has reshaped almost every single industry. That means investment is now more about a specific technology, and less about financial parameters. The result is more and more science majors filling the seats at investment banks and venture capital firms, giving rise to a new, de rigueur “T-shaped” investment capability. That combines horizontal knowledge and understanding of diverse financial markets with vertical expertise and mastery of a specific industry or segment.
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A vendor weights a piece of fish as a merchant quick response (QR) code and payment instructions for Ant Financial Services Group's Alipay, an affiliate of Alibaba Group Holding Ltd., are displayed at a fish stall inside MC Box Po Tat Market in Hong Kong. Ant Financial, which has been valued as high as $75 billion, is the world's most valuable closely held fintech company. Photo: Bloomberg
Investing in the new economy is never a me-too or used-to-be process; you thrive if you get it right, or die if you get it wrong. The financial industry is poised at such a thrive-or-die precipice, where real life applications can be reshaped or transformed by technology, or fintech.
Positive changes brought by fintech ought to be laudable, but we must prepare for their negative side. Here are some samples:
