I grew up in Russia, where chess was a spectator sport. Chess is almost as old as the New Testament and has only gone through minor changes over its long history. Chess has the longest recorded history of any sport – you can study the first recorded game, played in Valencia, Spain in 1475. The game, which was called “Scachs d’Amor” (“The Chess Game of Love”) by those who played and recorded it, comes to us in the form of a poem comprising 64 stanzas of 9 lines each.
Any player who takes chess seriously will carefully study every move in the tens of thousands of games played by grandmasters over the last six hundred years of recorded chess history. Chess players study opening systems – the series of first moves (five to fifteen in number) early in the game that lead to the middle-game formation of pieces. They study opening systems to the point that the early part of the game requires very little thinking; it is quite mechanical – you execute openings that you’ve studied day and night and thoroughly memorized. As the game leaves its opening phase and goes into middle- and then end-game stages, raw thinking becomes more and more important.
Enter Fischer random chess, which was popularized by the eccentric American world chess champion Bobby Fischer in 1996. It is the same as the traditional game, except that the first rank, the standard opening arrangement of kings, queens, bishops, knights, and rooks, is randomly reshuffled (symmetrically for white and black) every game. The second rank, where the pawns open the game, is untouched. The rules, objectives, and strategies are the same – you want to control the center; your pieces need to protect each other; your king has to be protected at all times; and the goal is the same: kill the other king.
The beauty and the difficulty of Fischer random is that memorization of the opening system is completely useless – there are 960 variations of starting positions for your army (this is why this game is also called Chess960). You cannot make an automatic move like pawn E2 to E4, because the piece behind it may not be a king but a rook. Studying the middle and end games still has tremendous value.
There is a parallel between today’s stock market and Fischer random chess. The last time we faced a global pandemic was in 1918, and this might as well have been in the BC era. Few of us were alive then, but even the history books are not that useful, as the structure of the US and global economy, the central bank system, the diversity and dynamism of society, and the state of technological progress are nothing like the world knew then. Most of the mental models we as investors rely on are based on an environment that no longer exists. The only common denominator between now and then is that humans have not really changed that much – it takes a few millennia to rewire our DNA and thus our fundamental behavior.
I look at my thinking from a few months ago – which seems like it was a decade ago – and realize it was naïve. In the initial shock of pandemic, I did not realize that I was using the playbook (opening moves) for a traditional recession as we approached our investment decisions. We were playing the wrong game.
We need to confront this environment on its own unique terms: we have never been here before. We have to incredibly careful not to fall back on using old mental models. With every move we make, we have to reexamine our assumptions.
Let me give you this example. As the economy reopens and we come back to work, a lot of people won’t return to their offices. Many companies have already announced that they will expand WFH (work from home). This means people will commute less … and the demand for cars and gasoline may be very different.
I visited Russia in 2008 for the first time since leaving it in 1991, and I discovered something interesting: When people talk, the distance they maintain between each other is much shorter than in the US. Americans keep at least two or three feet between them. Russians are comfortable with one foot. I (being Americanized at this point) found myself slightly uncomfortable being in such close proximity to friends I talked to, and I kept stepping back. It did not take me long to realize why social distance in conversation is different in Russia. Despite Russia’s enormous size, public transportation is always packed, elevators are tiny, and apartments are cramped. This built environment has shaped how people interact socially.
Will this pandemic permanently reshape distancing requirements for us – will two feet turn into four or six feet? Over the last few decades the airlines, trying to lower their costs, increased the number of seats on planes and thus shrank the distance between passengers. Will they have to rewind the clock and make seating more spacious again? If they do, ticket prices will have to go up, and may go up a lot, since airlines’ operating costs will not decline; they will only go up. Higher ticket prices may reshape air travel. Flying may turn into a luxury item again. You’ll have fewer planes flying. Businesses may substitute Zoom calls for travel. You’ll need fewer planes and fewer hotel rooms. Thus, if you are in the business of making flying buses (planes), your industry might go from 4-5% forever growth – this was the expectation as people in emerging markets became wealthier and started travelling – into a glacial decline.
In 2008 – despite the magnitude of the recession – we did not have to think about such fundamental shifts. I am not sure whether the travel industry will change this profoundly, but there is not a zero probability that this scenario will be our reality, all because of a microbe we cannot see.
As time passes and we enter into the middlegame, we’ll have a lot more clarity. We’ll get more familiar with our position on the board with game pieces like vaccines and cures, and the old normal may more or less resume. But today we have to face the fact that we are playing Fischer Random chess and must weigh our moves both carefully and creatively.
As we look today at the global economy, the potential outcomes are very wide. We’ve taken a position of hoping for the best but investing for the worst.