Wipe Out Risk: Earthquakes, the Cascadian Subduction Zone, the Pacific Northwest, and How it All Ties into Investment Diversification

Even The Rock couldn't layeth the smackdown on a magnitude 9.0 earthquake and save the Pacific Northwest region.

Even The Rock wouldn’t be able to layeth the smackdown on a magnitude 9.0 earthquake and save the Pacific Northwest region from… the Cascadian Subduction.

The New Yorker recently came out with an excellent, excellent article on the looming, lurking, silent terror that is the Cascadian Subduction Zone and how the Pacific Northwest is exposed to, put it lightly, wipeout risk. After terrifying my spouse by gleefully reading out loud all the potential cataclysms and destruction that would occur all along the Pacific Northwest – from  Vancouver, Canada all the way down to California – I slept on the article. Then I woke up this morning, and over a cup of strong, dark roast coffee, contemplated how this new bit of information shifted our thinking on our investments.


 

To be honest, I had all but completely forgotten about that New Yorker article this morning. What pushed the idea of a mega-earthquake back to the forefront of my mind occurred as I sat here, sipping my coffee and reading the C.H. Robinson Wordwide Annual Report.

C.H. Robinson is a 3rd party transportation and logistics company. For the sake of not turning this into an article outlining the minute details of C.H. Robinson, let’s just say the company is intriguing because it consistently, year in year out, compounds invested capital at an eyebrow-raising rate.

Anyways, as I was reading about the trucking and transportation industry, I started to imagine the affects of a major earthquake in the Pacific Northwest on the North American transportation industry. How would a major 9 magnitude earthquake affect transportation in the region? What would be the damage? What would be the damage if investments were locally concentrated within the region?

Quantifiable Risk

The Pacific Northwest Seismic Network has an informative map of the plate tectonics at work in the Pacific Northwest region:

Cascadian Subduction Zone and Wipe Out Risk 2

The Oregon Department of Geology and Mineral Industries has a graph that illustrates a 10,000 year history of major earthquakes originating from the Cascadian Subduction Zone:

Cascadian Subduction Zone and Wipe Out Risk 1

It is from this data set that the New Yorker article puts the chance of a big (~8 magnitude) one happening in the region in the next 50 years at 1-in-3 and the chance of a really big one (~9 magnitude) at 1-in-10.

Now, based on the 41 events that have occurred roughly over 10,000 years, the average intervals between the 41 major earthquakes is 243 years. Of course, averages can be deceiving and a quick glance at the data suggests that major earthquakes don’t occur in this region like a Swiss time piece every 243 years. Nevertheless, it is worrisome that the last major event occurred in 1700.

This is what we know. This is the best evidence we have on hand. And it suggests that you should expect a major earthquake in the Pacific Northwest region every 243 years. It is plain, dumb luck that a prospering civilization has been able to grow and flourish – astonishingly, in that specific point in time (since 1700), in those specific circumstances of the industrial revolution, advent of modern technology, and a free and prosperous society – in what is a statistical anomaly. Quite incredible when you think about it.

The Unknown Unknown

While our best science on hand suggests that we should be experiencing a major earthquake to rock the region every 243 years or so on average, it hasn’t occurred in over 300 years. Our knowledge of the Earth’s crust and plate tectonics is still in its infant stages. Therefore, we have no idea when the next big earthquake is going to strike this region. And therein lies the problem.

Let’s say you have your investments concentrated in the Pacific Northwest region. You have a few rental homes along the coasts of Seaside, Oregon, and a business in a building in the older, downtown district of Portland that is not retrofitted for current building codes for seismic activity. When that magnitude 9.0 hits, you face wipe out risk with that concentration of your assets in such a vulnerable space. You want to mitigate away wipe out risk as much as humanely possible.

Of course, you – nor the experts – have the faintest idea when exactly the Cascadian Subduction Zone will decide to go for a spin. So you need to take into account and prepare for, in Rumsfeld’s immortal words, the unknown unknown; or in Taleb’s words, the black swan event. And the best way I can imagine handling this is through diversification.

Diversification

Insurance obviously plays a big role in protecting yourself against various forms of risk. But since this whole earthquake business got me thinking of investment diversification, let’s take a glance at how you would tackle it.

We have friends who are doctors who are about to open up a clinic in Richmond, BC. Richmond is the proverbial earthquake whipping boy in Vancouver as it lies at sea-level on soft sediment. The popular opinion is that the ground will liquify in the event of a major earthquake and Richmond would literally be screwed the worst.

Taking this into account, if I were opening a medical clinic in Richmond, not only would I have ample insurance, I would want to take the profits generated out of the business and diversify the capital across many different investments: some Coca-Cola here, a little Nestle there, and sprinkling of Johnson & Johnson. What do these companies have in common? They operate worldwide. They provide refreshment, convenience, and medicine and with unassailable brands and trademarks. They generate immense profits and are very likely to generate immense profits into the future. They all offer current earnings yields between ~4-6%, with all offering ~3% dividend yields.

It would be incredibly prudent to take the excess profits from the superior returns of capital employed in the clinic and to diversify the income stream so that you not only generate torrents of cash from the operating business, you also have passive sources of income being generated from ownership in some of the best companies in the world. That way, if the next big one were to hit the region, even if you faced the destruction of your clinic and a humanitarian crisis situation on the ground for months, even years, to come, you would have Coca-Cola, Nestle, and Johnson & Johnson generating cash income for you, unaffected by the destruction of the Pacific Northwest as they all operate globally. That’s how I would go about things. But that’s just me.

Conclusion

Warren Buffett talks about the ovarian lottery and the luck involved in success in life in The Snowball. It may be important to be conscientious of another form of luck that rules our lives: the geological lottery. For the people and businesses living and operating in the Pacific Northwest, the relative geological tranquility of the past few centuries in a major seismic region of this planet has been like mana from heaven, allowing for the growth and development – economically, culturally, and socially – of a great civilization in extremely advantageous conditions.

Imagine: can you realistically picture the success of San Francisco and Silicon Valley or the rise of Bill Gates and Microsoft in Seattle if the Pacific Northwest region had experienced multiple 8 to 9 magnitude earthquakes in the past few centuries? The disruption caused my such awesome ecological devastation would have cracked and disjointed the steady rise of the economy of the region. It’s not hard to imagine that the Pacific Northwest would be less than fertile grounds to nurture and raise the imagination and genius of the region.

When counting the advantages and privileges we all experience in life, it is probably important to be mindful of the role of luck and the geological lottery.

May the tranquility of the region continue for many generations to come. But I will be prudent and make sure a significant percentage of our assets are diversified across different sectors and industries worldwide.

Further Reading


  • Thanks for this article. It reminded me of my time living in Seattle and the “volcano evacuation route” signs I’d occasionally see. Being someone from east of the Mississippi, it was certainly eye-opening. I’ll never forget the first time I went through a small earthquake tremor – I didn’t even know it was an earthquake until after the fact!

    I like how you positioned risk from the geological point of view, and agree with your assessment regarding the clinic owner’s need for diversification, spreading out his exposure to wipe-out events. I’d also add that you could consider wipe-out events as a matter of perspective and control: after all, we all reside on a single blue point floating along in the universe. 🙂

    • I mean, if we’re gonna get into Carl Sagan, Cosmos, etc type stuff, it’s incomprehensibly mind-blowing that we are stars that have achieved consciousness to reflect on the fact that we were forged from the unconscious heart of stars, which in turn were forged from hydrogen atoms and gravity, which in turn came into existence from the big bang. That puts things in perspective that doesn’t even begin to make sense, and makes you appreciate just how incredibly unlikely the chain of events stretching 14 billion years has been to get to this point.

      Back on topic: I suppose you could prioritize potential wipe out risk on probability of said events happening. Thus, major earthquake in Pacific Northwest in next 50 years greater than chance of Super Volcano going off in Yellowstone in next 50 years, which in turn is greater than chance of global wipeout due to planetary extinction size asteroid hitting planet in next 50 years.

      I mean, if that asteroid hits, that’s just bad luck.

  • theFIREstarter

    Terrifying and extremely interesting post!

    I am just glad that sleep old England is not a hotbed of seismic activity and I can sleep at night… but then there is always Asteroids, Nuclear bombs, zombies… Arghhhh! 🙂

    • I suppose you guys have all those pesky “continental” Europeans to deal with 😉

      All kidding aside, I love living on the West Coast of North America, but the idea that it is a hotbed (in geological years) of major earthquakes is a little unsettling when you really think about it. Thus, best to just bury the head in the sand and not really think about it too often!