BLACK SWANS REQUIRE LARGE CASH RESERVES

One of the many business mistakes I have made in my career, and I've made a ton, involved not having a large enough cash reserve for an "extremely rainy day." Today's inter-connected, lightning-fast business world requires a war chest much larger than previously thought prudent. Nassim Taleb's book, "The Black Swan," lays out the premise that all of the impactful events in business, economics, and world history could have never been predicted. The book title emanates from the simple story of how European encyclopedias listed swans as always white until a global explorer discovered black swans and forced the scholars to change the facts. This true story is a metaphor for "we don't know what we don't know" and "we won't predict what has never happened before."
As a result of our blindness, the events that truly disrupt our organizations are always the events that the consultants and the attorneys never imagined. One school of thought totally shuns financial advisors, risk consultants, and economists while claiming they never foresee the truly impactful events at the edges of the Bell Curve, except on subsequent talk shows giving their Monday Morning Quarterback analysis.
This is why today's highly-connected and highly-regulated environment requires a much larger cash war chest. I failed to predict our Black Swan. With our investment firm, I had prepared for terrible market swings and poor economies, and we had weathered many of these cycles over two decades. But, I missed the government regulatory backlash after the 2008 Financial Crisis. Following this worst crisis since the 1929 Great Depression, the Government regulatory state responded with never-before-seen fines, indictments, and forced closures. A common misperception is that the Government did not exact a great revenge on the financial community. This perception was only correct for the large, visible Wall Street companies. For the rest of the community, the Government closed over a thousand firms and brought a large number of civil and criminal actions against mid-tier and boutique firms and individuals. The large public corporations mostly wrote the Government substantial checks (with shareholder dollars) anywhere from $10 million to Bank of America's $17 Billion in order to satisfy their regulatory investigations.
Our firm was caught in economic purgatory - too big to remain off the regulator radar screen, and too small to be able to write a substantial check to make the regulators move onto the next company. After resisting what we felt were baseless allegations, and us demanding arbitration hearings, we were suddenly notified that the last five year's of our financials had been "re-audited," and now we were mysteriously "out of compliance." These were the same financials which had been audited annually by four separate regulators, including our accusers, but suddenly we now had our own Black Swan. We could not rectify these contested millions in the forty-eight hour window given, and we were shockingly out of business on Monday morning (See "Fall of MICG," Ash Press 2017, Amazon Books). Today, it still seems impossible. I had let down so many employees, shareholders, and a community which had relied on our success. Multiple attorneys have subsequently advised me that if I would have had a war chest of $10-12 million in liquid cash to "write the check," our firm would have paid a fine and made it through this period. We had recently spent a great deal of our excess capital taking advantage of the market turmoil and purchasing successful investment practices from Merrill Lynch, UBS Securities, and multiple regional firms. What I should have been doing was building up a large war chest in case I did not know what I did not know. The media has always incorrectly claimed our closure was the result of nefarious hedge fund activities following the Bernie Madoff hysteria, but that was not the case. We would have weathered that. It was not having the cash on hand to write an immediate check.
Your war chest has to be cash - not investments, not credit lines, and not even money market accounts. In our 48-hour emergency our regional and community banks had already suspended most firms' credit lines in an attempt to survive themselves, our hedge funds and real estate investments had suspended redemptions for our shares, and you might remember that even money market funds were frozen while we all discovered these not to be as daily liquid as we had believed. A friend of mine called me in a life and death panic himself only two weeks earlier claiming that Wachovia Bank had given him thirty days to repay his $16 million loan on his new condo development project even though he was in full compliance with all loan covenants. The small print allowed this during Black Swans. Yet, even Wachovia did not survive. Gold and silver bars are also potentially good options during these periods for a whole separate list of reasons (Another Post).
I have given you my personal experience, but let's look at other recent examples: Chipotle "food poisonings" derailing a tremendous growth story, recent sexual harassment allegations closing multiple organizations, the Obama Administration shutting down the pay-day lending industry and independent "for-pay" colleges based purely on its ideological preferences, and disruptive technology radically changing the future of retail, taxis, and truck drivers. We have all witnessed the successful restaurant crowded every night until suddenly the doors are closed because even though they thought the P&L looked fine, they simply ran out of cash. Read Phil Knight's recent book, "Shoe Dog," which details the numerous times Nike almost ceased to exist because the successful growth actually depleted the savings account.
Now my economist buddies will tell us that an oversized war chest of cash hurts the company growth rate, reduces our Return on Equity (ROE), and reduces a bunch of other fancy ratios we like to use. But, in today's world of big government, social media instant response, and Black Swans coming at us from every direction, I urge you to consider maintaining a much larger war chest than you previously thought was prudent or conservative. Please learn from my mistakes.
Wells Fargo was just fined another $1 Billion this month by Elizabeth Warren and her gang. I hope that stage coach has a lot more gold bars inside! 

"Whom the Gods wish to destroy they first call promising." - Cyril Connolly

* This Post contains excerpts from Jeff's book, "How to Lose a $Billion," Ash Press, 2019 Release.

*For more information on Jeff's Books, Blog, and Legal Challenge, please visit www.jeffmartinovich.com

* To access JAM Views directly, please visit jeffreyamartinovich.blogspot.com.

* SUBSCRIBE TO JAM VIEWS