Portfolio diversification is supposedly as close to a free lunch as you’re likely to get in the investment industry. The idea is very compelling: construct a portfolio of uncorrelated assets and you’ll be relatively immune to market shocks.

But as soon as markets are hit by a storm of sufficient strength, the non-correlation that existed during a period of calm reveals itself to be illusory. It’s there when you don’t need it at all, and it disappears when you need it most. Some lunch. Not so free.

You know this already. As the old cynics amongst us say, the only thing that goes up in a crisis is correlation.

This applies in the domain of noise. In my book on the subject, unsurprisingly called Noise, I define noise as the set of acute disruptions and chronic disturbances that undermine your ability to function at an optimal level. I identify 10 sources of noise that account for virtually all of the difficulties experienced by professional investors. These include factors such as price action, performance, and opinion.

Any one of these sources of noise might not seem to be that big a deal in and of itself. But all these sources of noise are related to one another in a variety of ways that are not always altogether obvious. And this means that noise emanating from one source can quickly ignite contagion amongst a number of other sources. 

These combinatorial relationships give rise to nonlinearities, which means that a seemingly innocuous blip in one source of noise can quickly trigger a systemic cascade and take you deep into your danger zone. 

Noise contagion is more likely to take hold when you have an unmanaged base-load of chronic noise. Chronic noise has a corrosive effect on your ability to deal with the complex problems of day-to-day fund management. It also erodes the buffer of cognitive, emotional and physical resources that you will need to draw upon to withstand the unexpected but periodic assault of acute noise. 

When there is a spike in acute noise that comes on top of already high levels of chronic noise, your capacity to deal with the situation in a constructive manner is massively compromised. You can find yourself doing things that you shouldn’t, or not doing things that you should. Either way, noise-contagion sets you up for regret.

  • What are the major sources of noise in your professional life?
  • How are these related to one another? What might that mean?
  • How will you inoculate yourself against a sudden increase in noise?