What is a Black Swan?

Black swan figurine on top of pile of coins started to topple over
Image source: Getty Images

A ‘black swan event’ is a term you probably heard more in 2020 than in any year in recent memory. Yet, despite what its avian name suggests, a black swan event has absolutely nothing to do with swans, any other kind of bird, or ballet. So if you’re an avid birdwatcher who has found themselves at this page, I’m sorry friend, but you’re in the wrong place!

So what is a black swan, and more importantly, what does it have to do with investing?

What is meant by a ‘black swan’?

To explain what we mean by ‘black swan’, first we must understand where this term comes from. Despite the birdwatching disclaimer earlier, this term does indeed have an ornithological origin. Prior to Captain Cook’s Australian arrival, a ‘black swan’ was a term used throughout the British Empire to describe an impossible scenario. See, back then, the only swans around were white, so a ‘black swan’ was an easily imagined metaphor for anything deemed impossible to exist.

But that all changed when white settlers arrived in Australia and discovered there was indeed such a thing as a black swan. Thus, the term has evolved to mean a rare but significant event that doesn’t seem possible or likely to occur, until it does.

What are some examples of a black swan?

In the world of investing, the term ‘black swan event’ is now used to describe any market-moving event that no one saw coming. A perfect example of this was the coronavirus pandemic, which profoundly shaped the investing landscape of 2020, despite no investors knowing it even existed for most of 2019. 

Before 2020, investors hadn’t really seen a massive black swan for a number of years. Sure, you could call unexpected events of smaller significance ‘black swans’, such as the election of President Trump, or the affirmative Brexit vote in 2016 for example, or perhaps the onset of the global financial crisis in 2008 after the collapse of Bear Stearns. But the upper limits of the term only apply to a few very calamitous events, such as the coronavirus pandemic or the 9/11 attacks in 2001.

How can investors prepare for a black swan?

By their very nature, black swan events are impossible to explicitly prepare for. Yet they are an occurrence that all investors should be ready to accept. We won’t know when, where, why or how, but a black swan will hit us again at some point.

So what can investors do? 

Well, it’s worth asking yourself questions like: ‘what kind of event can derail the companies in my portfolio?’ as well as ‘are my businesses strong enough to withstand anything the world can throw at them?’

There are limits to this of course. No one can predict the future. But there’s a reason some companies are thriving during this ongoing pandemic, while others are struggling – some companies sell products that people simply can’t live without, while others don’t. 

While we have seen companies providing airlines, cruises and car rentals struggle enormously in the Brave New World that the pandemic has created, it has hardly quenched the world’s desire for Coca-Cola, or Apple products, for example. In the immediate aftermath of COVID-19, people were using social media, YouTube and Google search more than ever.. Grocers like Coles Group Ltd (ASX: COL) were flat strap.. And the accelerator was  on the floor in terms of the transition to a cashless society, benefiting companies like PayPal and Afterpay Ltd (ASX: APT). Even at the peak of national coronavirus lockdowns, we still needed the simple household staples like the laundry powder, deodorant, shampoo and bleach that Unilever manufacturers.

So, while it’s impossible to predict or prepare for a black swan event, you can take steps to minimise the risks that such an event might pose to your own portfolio. If your company or companies have a powerful brand, a loyal customer base, or they make goods and services people can’t live without, they have a head start against a black swan.

Asking these questions of your own portfolio holdings can help assuage any concerns you may have about a future black swan event. But, as is the very nature of the black swan, we can never be completely safe. It’s just one of those things in investing that we all have to accept is possible (or inevitable), even if it is highly undesirable. 

As of 13th July, 2021. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. The Motley Fool Australia’s parent company Motley Fool Holdings Inc. owns shares of and has recommended AFTERPAY T FPO, Alphabet (A shares), Alphabet (C shares), Apple, and PayPal Holdings. The Motley Fool Australia’s parent company Motley Fool Holdings Inc. has recommended the following options: long January 2022 $75 calls on PayPal Holdings, long March 2023 $120 calls on Apple, and short March 2023 $130 calls on Apple. The Motley Fool Australia owns shares of and has recommended AFTERPAY T FPO and COLESGROUP DEF SET. The Motley Fool Australia has recommended Alphabet (A shares), Alphabet (C shares), Apple, and PayPal Holdings. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.