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The Dance of the Black Swans

I will go further: people who worry about pennies instead of dollars can be dangerous to society. They mean well, but, invoking my Bastiat argument of Chapter 8, they are a threat to us.  They are wasting our studies of uncertainty by focusing on the insignificant.  Our resources (both cognitive and scientific) are limited, perhaps too limited.  Those who distract us increase the risk of Black Swans.  THE BLACK SWAN: The impact of the HIGHLY IMPROBABLE by Nassim Nicholas Taleb pg 288 If you want to read the thoughts of a very smart man who knows he is a very smart man, this book is for you.  I liked the book, but I am not sure I would like the man at a dinner party.  I would be too afraid to speak in his presence given his readiness to think others who do not think like him are idiots and bores.   He  particularly rants against economists– especially Merton and Scholes,  Over the years, I have come across men who suffer from SAMS (Successful Arrogant Male Syndrome) and I suspect he has it…but then again, I could be wrong and he is really a humble guy with rapier wit. The  idea of The Black Swan, like the movie, has a dark side.  Statistically, Black Swans are unpredictable events which are very consequential and explainable in retrospect.  The losses from a Black Swan can be horrific yet no one saw it coming but everyone can explain why it happened. He gives the example of a turkey who lives a 1000 days with no idea that a day will come when he will become Thanksgiving dinner.  A bit of a psychological thriller. Cases in point are the financial crises of 1998 and 2008.  It was during these crises that Taleb make a fortune because of his Black Swan investment strategy. My only caution to those who would read this book to copy his stategy is the following.  Taleb’s strategy has the problem of  ‘fallacy of compostion’.  If everyone does what he does, it wouldn’t work anymore.  For example, it is possible for an individual to stand up at a football game to see the play better but if everyone stood up, it could actually be worse, especially if the person in front of you is tall.  Taleb’s basic strategy is to invest 85 to 90 percent of his wealth in very safe instuments (like Treasury Bills) and the rest in very risky assets (like options).   It is impossible for everyone to take this approach and here’s why.  Options require the underlying asset to exist which can only exist if they are bought and sold by somebody.  You can’t have a stock option (the right to buy or sell a stock at a future time for a particular price) if the stock itself doesn’t exist.  Furthermore, if everyone buys T-Bills the rate of return can actually go negative.  In other words, we pay to have our money in a safe place. Fortunately for him, everyone won’t copy his approach and he has enough money to endure years of small but cumulating losses to win big every decade or so. Other than these little quibbles, I recommend the book if you are interested in reading about philosophy, probablitity and risk.

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Comments (2)

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    Antonio

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    Hi,Great elaiidutcon of exposure to positive black swans. It (Taleb’s black swan) is truly an insightful framework to view the random, explosive success that often governs artistic fields. There?s zero risk if you enjoy the activity itself (the means is the end), and you expose yourself to the possibility of luck and success. Success comes unevenly, so 99% of your efforts might yield zero rewards. But that 1% ? the black swan event ? can make it all worth it.

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    Art Zantinge

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    My view is that every economist needs to subject themselves to the scrutiny of Nassim N. Taleb. It’s not that he has the correct answers; but it is his willingness to admit he doesn’t know. Many economist are unwilling to admit that. The fact that Taleb is willing to challenge our conclusions should only drive those of us making conclusions to be sure we haven’t oversold them.

    On the “falacy of composition” in his investment strategy, I suspect we should look only at the general idea. That is choosing investments with minimal risk for the greatest part of the portfolio and choosing investments with a maximum opportunity for return on a small part of the total portfolio. If US T-Bills were to become a higher risk investment than some other investment, I’m sure Taleb would advise moving the bulk of the portfolio to that other investment.

    Finally, on inviting Taleb to a dinner party or cocktail party, I would advise also inviting William Ury. That way any conflict could also be resolved by a master before any long term damage was inflicted. lol.

    Cheers!!

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