Black Swan events are disastrous events that are supposed to be so rare that one doesn’t really have to worry about them. The probability of a black swan event occurring is just too remote.

Or is it?

I can’t help but think that a flock of black swans is still circling above the world’s financial markets. One or more of the unwelcome critters will likely swoop down to engulf the markets in yet another crisis later this year. 2008, the year from hell, seems to have created exactly the type of environment that naturally attracts black swans. The mispricing of risk is a tasty morsel that I expect black swans love.

A black swan event that will dramatically break the backs of world financial markets is probably already breaking ranks with the rest of the flock and is on the way. Once that black swan arrives there will be little that Ben Bernanke and the Fed can do about it. Extreme unwarranted optimism will turn to black hole pessimsim overnight.

So far the stock market has performed well after the massive injection of liquidity engineered by Ben and his good buddy at Treasury, Hank Paulson. It’s amazing what billions of Dollars in fat cat bailout money will do. You have to give them both credit for shoring up the crumbling foundations of an overextended financial system. Good work, men. Bravo. Keep up the good work and be prepared to defend the markets against the black swan.

Unfortunately in spite of hard labor on the part of Mr. Bernanke and Mr. Paulson, the opening of the Fed’s discount window to non bank financial institutions, cutting fed funds and discount rates, and other heroic measures have done little if anything to address the core problems. Banks and other financial institutions are still sitting upon billions and billions of dollars of sub prime mortgage exposure, credit card debt exposure, student loan exposure, car loan exposure, and the granddaddy of them all, mountains of derivative financial instruments that are marked to only make believe evaluations.

No only that but the Federal Reserve Bank, by accepting far under water toxic waste sub prime
mortgages and a host of other questionable marked to make believe values derivatives at par value has exchanged billions of Dollars of perhaps shaky but still considered secure Treasury Bills for well, errr, junk. There are no other words for it except “nearly worthless”. While this may have propped up the banks and brokerage firms for the moment it certainly hasn’t strengthened the Fed’s balance sheet. One has to wonder if a black swan is on its way to visit the Fed.

As if all of that weren’t enough the US housing market is still sinking, new home starts are back to early 1980’s levels, oil prices continue to make record highs, gasoline is approaching a US national average price of $4.00 a gallon, and the short lived maybe the Fed has stopped cutting rates rally in the US Dollar seems to be over.

I strongly expect that all of the recent rosy forecasts about the “worse of the financial crisis appears to be over” are more of a hope and dream than anything else. I don’t know what the event will be to trigger a panic. Perhaps it will be oil at $150 a barrel, perhaps gasoline at $4.00 plus will do it, perhaps a few more months of falling home prices, or maybe another $100 billion in bank writedowns, but I’m pretty certain that a black swan is on the way. Certainly a US air strike against Iran would start a doomsday scenario in financial markets worldwide as oil prices spike to who knows where.

With the event unfolding, whatever it may be, the optimistic forecasts about the stock market and the Dollar will evaporate and a full scale panic will set in. As these things tend to happen all hell will break lose, suddenly, without any real warning. It will be just one tragic event too many piled upon a stack of financial accidents waiting to happen that already boggles the imagination.

Reality will be an unpleasant experience for all of the dreamers, including Secretary of the Treasury Paulson, and Fed Chairman Ben Helicopter Bernanke. I don’t think they are ready for the black swan. After all, that black swan is supposed to be beyond the ream of probability.

If you're new here, you may want to subscribe to my RSS feed. Thanks for visiting!