Natural Selection and the Stock Market
If there are other worlds elsewhere in the universe, I would conjecture they are governed by the same laws of natural selection — Richard Dawkins
Three fundamental elements are essential for the emergence of natural selection and evolution: (i) a finite pool of resources, such as energy; (ii) a diverse population capable of replication, ranging from simple self-replicating molecules to complex organisms like humans, with variations in traits within the population affecting resource acquisition efficiency; and (iii) the passage of time.
If one possessed divine powers, simply introducing three core elements would suffice for a complex tapestry of biology on a planet like ours to evolve: limited resources; a replicating population with trait variance; and time. Starting from there, the divine power would sit back and observe the unfolding of evolution.
The relentless pursuit of resources, coupled with the instinct to replicate, would inevitably give rise to increasingly complex and efficient life forms. Over time, the pursuit for efficiency would also catalyze the emergence of consciousness, the development of language for improved communication, and the formation of agrarian societies to support growing resource demands, all aiding in the race to excel over others.
Even at a more fundamental level, the mere presence of finite energy and existence of a primordial chemical mixture sets the stage for the inevitable rise of self-replicating entities, paving the way for the inevitability for the process of natural selection and evolution to occur.
Natural selection, however, extends beyond biological arena. Whenever three specific conditions converge in any domain, the principles of natural selection and evolution will take hold. A contemporary illustration of this is the dynamics of the stock market.
To draw parallels, let us first identify the presence of three essential components in the stock market.
Within the stock market’s framework, the ‘resource’ equates to the discretionary capital held by investors. The ‘population’ consists of diverse companies, each vying for that capital with their unique characteristics (or traits). Time, as always, is plenty.
Similar to biological entities, the primary objective for companies is to ensure their continuity and expansion, which they achieve by securing capital. The biological selection mechanism determining which traits are advantageous is mirrored in their effectiveness in drawing investors and their money.
Companies strive to highlight a range of traits to capture investors’ interest and secure funding. These traits include above-average profitability, effective management, promising growth prospects, and investment in innovation to develop new products or enhance existing ones.
It is crucial to understand that the process is self-driven and natural. Individuals have discretionary funds at their disposal, which companies aim to attract. The stock exchange serves as the meeting ground, and that is where the intricate dance of natural selection plays out.
Just as environmental pressures — such as resource scarcity, climatic shifts, the advent of new pathogens, geographical transformations, and alterations in predator-prey relationships — steer the evolution of biological organisms, external factors also influence the evolution of companies. Examples of such changes include the rise of disruptive technologies like Uber, political turmoil that heightens the stock appeal of defense-focused firms, and public sentiment, such as attributing responsibility for climate change to certain corporations. And thus, along the path of evolution, the environmental pressures also evolve and affect which traits will be preferred.
Remarkable parallels exist between the evolutionary processes of organisms and companies, with both driven by the imperative to acquire resources more efficiently, leading to greater complexity with time (I am sure you have heard about complex financial transactions like hedge funds and derivatives). Nonetheless, distinctions between the two also exist.
In the stock market, investors engage in deliberate decision-making (despite the debatable rationality and objectivity of their choices), contrasting with natural selection influencing living organisms, which is an instinctive process shaped entirely by environmental forces.
Another distinction lies in the role of central banks, which actively work to tinker with market conditions and do not let the process of natural selection play out to its full potential. While there maybe a biological counterpart to this regulatory influence in the present era — human intervention is now a significant factor in the evolution of species — it did not used to be this way.
An additional contrast is the potential for resource (i.e., capital) availability to expand over time for stock markets.
Despite these differences, there are striking resemblances in the evolution of companies and biological organisms within their respective domains. This is inherently due to the combination of three fundamental elements listed at the beginning, which necessitates such a parallel.
Ciao.
