The San Francisco Report

10/6. Why does this city still use Foghorns?

I am in the city of Tech. Life changing innovations such as Google, Tesla, Apple and many others come for this area. But when I go for my run in the early hours through the empty streets of Pacific Heights I hear a gigantic horn blasting throughout the city. It’s the foghorn at the Golden Gate Bridge. It’s uncompromisingly loud. In a gigantesque and almost scary way it reminds you that you live right next to a massive ocean. Ships come from there and are directed through the narrow straits under the Golden Gate Bridge. Foghorns are the navigational tool to make sure shipwrecks don’t spoil the picturesque tourist sight at the Golden Gate Bridge overlook. Why does San Francisco, the city of tech and innovation, still use this old technology?

To answer that question it pays to look at the use of foghorns more closely. Why are they beging used? What is their purpose and why can’t something else replace them in the age of Google maps, GPS and space travel.

Foghorns are just part of a combination of navigational tools used to direct ships around the bridge. There are other, more sophisticated, methods and GPS is certainly one of them. Ships nowadays can navigate the Golden Gate Bridge without a captain on board just by using GPS and computers. But what if they fail. What if the electronic installation of the ship breaks? That’s when the horns come into play.

The foghorns are a supplement to other technologies still used, even 90 years after they were first introduced. Also, GPS is not a mandatory technology for global shipping. So, if you are a freighter from some remote country and you don’t have the lastest gadgets on board, you should still be able to dock in San Francisco or Oakland by relying on the foghorns to guide you through the straits at the Goldgen Gate Bridge. That’s the fundamental idea behind the horns.

They made me think about my life as a fund manager. Do we have foghorns? To me they are a symbol for two things. One, is an early warning sign for a situation which can quickly change. The other is a symbol of nostalgia or even inertia. Sometimes people just stick with the old even though the new is easier, better and cheaper.

Financial markets definitely don’t have an early warning system. Trust me, anybody who claims to have one should be escorted to another Bay Area institution, St Quentin. In other words, unless you have illegal insider information you are just not able to anticipate changes in the financial markets. Ask Gordon Gecko or real life personas like Michael Milken about this.

Why is it that weather is predictable but financial markets not? Weather follows the laws of physics. We can study it, learn and use models to anticipate behavior. Markets are driven by people and their thoughts and emotions. Yes, we can model those. But people learn and they incorporate all the models in their next decision making process. Hence, every model today is antiquated and not useful because decision makers will incorporate it and therefore make a different decision than the model would predict. Financial market models are always one step behind. Weather models are not.

So, if we can’t predict stuff, what is it we do as fund managers. We really only have one function. It’s to stick around and weather the storm until the market acts like it should.

What does that mean? Well, we have an idea where things should be priced. And the market almost never prices things correctly. Sometimes it does. That’s when we need to get out of our trades. We study the market and analyze assets and prices. We then wait until the market prices them correctly. When that happens we trade. In the meantime volatility caused by emotional trading, irrational behavior and other human traits can drive prices very far from where they should be. It is our job to stay calm and assure ourselves and our investors that things will be ok. This is hard. Viewed from this angle, we are much more about communication and handholding than about math and prediction.

How about the inertia. Do we have inertia in the financial markets. Actually, we have very little of it. Financial markets are probably the most dynamic and adaptive human system there is. The reason for this is simple. You just can’t afford to be lazy or inert. Another, more powerful reason, is the concept of arbitrage.

Think of financial markets as a accumulation of greed, aggressive traders with laser focus on details. When something changes, they change. They adapt, they literally jump on a penny if miss priced. Inertia has no place in such a world. This is pure eat and avoid to be eaten.

So, we have neither a warning system nor do we tolerate inertia. Financial markets are the anti thesis of foghorns.