Black Swan Definition
Primarily used in finance, a black swan refers to rare, unexpected events that affect financial markets, such as the financial collapse of 2007-8.
A Little More on What is a Black Swan
Finance researcher, investor and professor Nassim Taleb introduced the concept of the Black Swan in his Book The Black Swan: The Impact of the Highly Improbable. He wrote that random, unexpected events, or Black Swans, were near impossible to predict and could have catastrophic effect on the market. Therefore, investors should plan for the (rare) occurrences of Black Swans. Those who have identified and addressed vulnerabilities in the market may even turn a black swan into a white swan! Taleb argues, then, that Black Swans ultimately strengthen the system: flawed systems fail, stronger ones simply take a step back.
The financial market collapse of 2007-8 was a recent Black Swan, leading to devastating impact on U.S. and world economies. In the early 2000s, another Black Swan occurred with the “dot com” bubble, where investors shoveled funds in the undeveloped internet industry. Long Term Capital Management, a U.S.-based hedge fund, collapsed because of unexpected default in debt instruments put out by the Russian government. None of these events were foreseen by investors or models.
General References for Black Swan
Black Swan Academic Research Articles
A black swan in the money market is an article written by Taylor, J. B., & Williams, J. C. (2009) in the American Economic Journal: Macroeconomics, 1(1), 58-83. After the 2007 financial collapse, the spread between federal funds rate (overnight funds rate) and the interbank lending rate increased. The Federal Reserve Bank responded with several actions, including the Term Auction Facility (TAF). This article analyzes whether “counterparty” risk increased spread, and argues that the TAF had little effect on reducing it.
Further results on a black swan in the money market is an academic article written by Taylor, J. B., & Williams, J. C. (2008) in the Stanford Institute for Economic Policy Research Working Paper, 7. This article found that counterparty risk DID have a significant impact on the spread between interbank lending interest rates, and did not find the TAF to have negative effects on lending rate spreads. The research proved useful in confirming prior studies on black swan events.
Black Monday and black swans, Bogle, J. C. (2008). Black Monday and black swans. Financial Analysts Journal, 64(2), 30-40. This research accepts that black swan events will occur in financial markets, drawing a distinction between risk (measurable probability of occurrence) and the uncertain, or the unknown. It found that financial markets become more vulnerable due to the increasing affect the financial economy has on total productivity.
The contribution of business and information systems engineering to the early recognition and avoidance of “Black Swans” in IT projects, Buhl, H. U. (2012). This article analyzes to what degree information systems can predict and avoid black swans in Information Technology Projects.
Black swan theory: applications to energy market histories and technologies, Krupa, J., & Jones, C. (2013). Energy Strategy Reviews, 1(4), 286-290. This article uses the Black Swan Theory to address shifts in the supply and demand for energy. It focuses on disruptions, like technological innovations, within the energy security space, eventually calling for more conservative models of predicting and developing energy forecasts.
Understanding uncertainty shocks and the role of black swans, Orlik, A., & Veldkamp, L. (2014). (No. w20445). National Bureau of Economic Research. This article focuses on shocks to the market caused by uncertainty, defining shocks to uncertainty as “changes in the variance of an innovation whose distribution is common knowledge.” The research shows how quantifying uncertainty can elucidate shocks to uncertainty.
Implications of black swans to the foundations and practice of risk assessment and management, Aven, T. (2015). Reliability Engineering & System Safety, 134, 83-91. This article reviews the different types of black swans for risk assessment and management, asserting that the possibility of black swans must be included in current risk assessments. Therefore, further risk assessment methods must be developed and applied to management practices.
Fifty years of case research in international business: the power of outliers and black swans, Aharoni, Y., Piekkari, R., & Welch, C. (2011). Rethinking the case study in international business and management research, 41-54. This article shows the effect of black swan events via international business cases.
Black swans to grey swans: revealing the uncertainty, Masys, A. J. (2012). Disaster Prevention and Management: An International Journal, 21(3), 320-335. Purpose. This article applies our basic understanding of the black swan theory to the “disaster prevention and management” field of study. The ideas of “red teaming” and “scenario planning” are applied to black swan concepts in this field, in hopes of gleaning new insight into black swans and how best to prevent them.
Commentary: Business Black Swans and the Use and Abuse of a Notion, Dean, G., & Clarke, F. (2010). Australian Accounting Review, 20(2), 185-194. This report applies Black Swan theory to Fair Value Accounting, reviewing the change in use of fair value from utility rate setting to corporate reporting.
Uncertainty, innovation, and dynamic capabilities: An introduction, Teece, D., & Leih, S. (2016). California Management Review, 58(4), 5-12. This research brings together thought leaders to address uncertainty, innovation and dynamic capabilities via various frameworks, including Black Swan Theory, in pursuit of increased manager performance.