As the S&P 500 flirts daily with all-time highs, I just happen to be reading two books–The Black Swan and the newly released Antifragility-by philosopher/options trader Nassim Taleb. Taleb made his name during the 2008 finanicial crisis–in The Black Swan, he correctly predicted the coming crisis based on his view that the more complex a system gets, the more fragile it becomes. Making matters worse, most humans are blind to such dynamics, and think they can predict the future with financial models and other “sophisticated” means. Antifragility expands Taleb’s thesis further.

So what does this have to do with the S&P and your Roth IRA? Simply that when the rest of the world is enthusiastic, as an individual it’s probably time to start being less so (Taleb would actually argue that we should always be wary of downside risk, not just in boom times). Successful investors sell when prices are up and buy when they are down. Taleb is skeptical of our ability to “time” the markets, and says that what we might consider a well-diversified pool of “medium” risk securities is less secure than we think, precisely because we neglect the impact of unpredictable events (Black Swans) that can wipe out an entire portfolio (remember 2008)?

Taleb’s approach turns traditional investing theory on its head. Rather than broadly diversify, he suggest a portfolio composition that is weighted heavily toward “safe”investments (say 90% in Treasury Inflation-Protected Securities, or TIPS), with the rest put into highly risky investments that have the potential to achieve extraordinary gains when the “unthinkable” happens. In our current situation, perhaps it makes sense to plow some money into securities that are likely to gain from an S&P slide. Trading options are one way, but it’s not for novices. And any strategy should be implemented in consultation with an advisor fluent in those strategies.

Taleb’s premise is detailed several books–I won’t try to summarize everything else here. If nothing else, he implores us to understand this: when complicated markets become ecstatic, they become correspondingly more fragile. Best to protect yourself before the next Swan arrives.

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