Randomness and Anti-Fragility

"I think that an oil shock would be very good because we need to be trained to finally give up on these stupid cars. We have so many alternative sources, and people are too lazy. We need to enhance anti-fragility in this area. You can move from wild randomness into mild randomness by creating some. It is like hormesis: You give someone a little bit of poison and they get stronger. Economic life gets stronger not with bailouts, but with bankruptcies."
Nassim Taleb

An excellent read:
http://knowledge.wharton.upenn.edu/article.cfm?articleid=2755

The Journal Discovers The Swan

"After a decade-long bear market and two years of turmoil that saw the stock market plunge by 57%, investors are betting on still more financial pain in the months ahead.  Bond yields are near record lows. Gold continues to soar. And stocks are whipsawing as traders try to predict the direction of an economy that remains, in the words of Federal Reserve Chairman Ben Bernanke, 'unusually uncertain.' But not every investor is trembling with anxiety over the next financial blowup. Some are embracing the market's volatility—and constructing portfolios to profit from it.  A growing number of money managers and financial firms are rolling out investment products designed to exploit big declines known as 'black swan' events. Most of the products are geared toward institutional investors such as pension funds, endowments and high-net-worth families—but black-swan strategies are trickling down to Main Street as well. The term black swan was popularized in a 2007 best-selling book by author and investor Nassim Nicholas Taleb. It derives from the ancient belief, once widespread in the West, that all swans are white—a notion that was proven false when European explorers discovered black swans in Australia. The gist: Anything is possible. In fact, big surprises are more common than people think. In financial terms, a black swan usually results in drastic moves in the market—events such as the 1990 Iraqi invasion of Kuwait, the Sept. 11, 2001, terrorist attacks and the recent financial crisis. Statisticians call these events 'fat tails' (because they occur on the fringes, or tails, of a bell curve), while professional investors try to manage their 'tail risk.' The basic idea behind Mr. Taleb's black-swan strategy is to keep most of your money ultrasafe, and to bet a small portion—say 10%—on options contracts or other speculative bets whose prices will soar during a market panic."

"'The Black Swan' continues to be a hot 'buzzword' for the unpredictable rogue wave lurking out in the future."Random Roving, May 18, 2009

Apartheid On The Border

"How blind we are to arbitrary Nation-State; in S. Africa they removed apartheid; in the U.S. you see a version at the border Tijuana-San Diego."
Nassim Taleb, Author & Trader ("Fooled By Randomness", "The Black Swan")

The Straw And The Last Truck

I've made many references over the past few years to Nassim Taleb and "The Black Swan". I believe that watching this video is the best 12:21 minutes that you can spend today.



The best $11.16 that you can spend today:
http://www.amazon.com/Black-Swan-Improbable-Robustness-Fragility/dp/081297381X/ref=sr_1_1?ie=UTF8&s=books&qid=1276175547&sr=8-1

Thanks JHD for the find!

Black Swans and Black Gold

Another "Black Swan" is heading for Louisiana. Just when my home state was really starting to feel it's "mojo" again. Just a few weeks ago, the New York Times declared that the New Orleans comeback was for real. A Superbowl victory and a new hot HBO show called "Treme".

The oil spill off the coast of Louisiana is growing daily with no confirmed short term solution. The Valdez had a finite volume of oil on board. This well is flowing from an oil reservoir that could produce for forty years.

Last Sunday I was watching the memorial for the deceased miners. Within one week, another energy catastrophe is upon us. The only good thing that can come from these events is that our nation starts a dialogue on an energy policy. The oil/gas industry has discovered a staggering amount of natural gas over the past five years. Natural gas powered eighteen-wheelers and government vehicles sounds like a "no brainer". The coal lobby might just be too powerful. We'll see. Some proactive behavior will be required.

What Makes Us Fragile

"What makes us fragile is that institutions cannot have the same virtues (honor, truthfulness, courage, loyalty, tenacity) as individuals."
Nassim Taleb

The Cog In The System

"Medieval man was a cog in a wheel he did not understand; modern man is a cog in a more complicated system he thinks he understands."
Nassim Taleb

The Depth of The River

"The average of expectations is typically greater than the expectation of averages (Don't cross a river because it is on average 4 feet deep)."
Nassim Taleb

Betting On The Black Swan: The Mountain Or The Ocean?

In mid-May, I made a post regarding Nassim Taleb.

Bloomberg reports:
' "Policy makers have no control over the outcome of their actions,” Taleb said. “The plane they are flying will either hit the mountain, which is hyperinflation, or crash in the ocean, which is deflation. There is a chance of the pilot hitting the runway. But if he’s not skilled, it’s less than he thinks.” '

"Universa is buying options on about 20 products that move according to expectations about inflation, Taleb said."

The entire article:
http://www.bloomberg.com/apps/news?pid=20601087&sid=aDVgqxiT9RSg

The Wall Street Journal also reported on the story:
"Unlike last year's sudden market implosion, inflation isn't an unimaginable event that few currently anticipate. In fact, many fear inflation right now amid government efforts to goose the economy. Universa's bet, however, is that inflation will reach levels few expect."

"By opening the inflation fund, Universa is trying to capitalize on a wave of investor demand for its products, which when they're right can protect investors from extreme market moves.
The new strategy, designed by Mr. Spitznagel, aims to post big gains if inflation and interest rates take off as they did in the 1970s. Universa will invest in options tied to commodities such as corn, crude oil and copper, as well as options on stocks such as oil drillers and gold miners."

' "We think these things are going to see massive volatility," Mr. Taleb said in an interview.
The fund will also bet against Treasury bonds, which tend to weaken in inflationary environments. Last week, Treasury yields shot to their highest level since November as prices fell on inflation concerns. Oil topped $66 a barrel. Gold is creeping nearing $1,000 an ounce."

The entire WSJ story:
http://online.wsj.com/article/SB124380234786770027.html

Taleb's Ten Principles For a Black Swan-Proof World
1. What is fragile should break early while it is still small. Nothing should ever become too big
to fail. Evolution in economic life helps those with the maximum amount of hidden risks – and
hence the most fragile – become the biggest.
2. No socialisation of losses and privatisation of gains. Whatever may need to be bailed out
should be nationalised; whatever does not need a bail-out should be free, small and riskbearing.
We have managed to combine the worst of capitalism and socialism. In France in the
1980s, the socialists took over the banks. In the US in the 2000s, the banks took over the
government. This is surreal.
3. People who were driving a school bus blindfolded (and crashed it) should never be given a
new bus. The economics establishment (universities, regulators, central bankers, government
officials, various organisations staffed with economists) lost its legitimacy with the failure of the
system. It is irresponsible and foolish to put our trust in the ability of such experts to get us out
of this mess. Instead, find the smart people whose hands are clean.
4. Do not let someone making an “incentive” bonus manage a nuclear plant – or your financial
risks. Odds are he would cut every corner on safety to show “profits” while claiming to be
“conservative”. Bonuses do not accommodate the hidden risks of blow-ups. It is the asymmetry
of the bonus system that got us here. No incentives without disincentives: capitalism is about
rewards and punishments, not just rewards.
5. Counter-balance complexity with simplicity. Complexity from globalisation and highly
networked economic life needs to be countered by simplicity in financial products. The complex
economy is already a form of leverage: the leverage of efficiency. Such systems survive thanks
to slack and redundancy; adding debt produces wild and dangerous gyrations and leaves no
room for error. Capitalism cannot avoid fads and bubbles: equity bubbles (as in 2000) have
proved to be mild; debt bubbles are vicious.
6. Do not give children sticks of dynamite, even if they come with a warning . Complex
derivatives need to be banned because nobody understands them and few are rational enough
to know it. Citizens must be protected from themselves, from bankers selling them “hedging”
products, and from gullible regulators who listen to economic theorists.
7. Only Ponzi schemes should depend on confidence. Governments should never need to
“restore confidence”. Cascading rumours are a product of complex systems. Governments
cannot stop the rumours. Simply, we need to be in a position to shrug off rumours, be robust
in the face of them.
8. Do not give an addict more drugs if he has withdrawal pains. Using leverage to cure the
problems of too much leverage is not homeopathy, it is denial. The debt crisis is not a
temporary problem, it is a structural one. We need rehab.
9. Citizens should not depend on financial assets or fallible “expert” advice for their retirement.
Economic life should be definancialised. We should learn not to use markets as storehouses of
value: they do not harbour the certainties that normal citizens require. Citizens should
experience anxiety about their own businesses (which they control), not their investments
(which they do not control).
10. Make an omelette with the broken eggs. Finally, this crisis cannot be fixed with makeshift
repairs, no more than a boat with a rotten hull can be fixed with ad-hoc patches. We need to
rebuild the hull with new (stronger) materials; we will have to remake the system before it does
so itself. Let us move voluntarily into Capitalism 2.0 by helping what needs to be broken break
on its own, converting debt into equity, marginalising the economics and business school
establishments, shutting down the “Nobel” in economics, banning leveraged buyouts, putting
bankers where they belong, clawing back the bonuses of those who got us here, and teaching
people to navigate a world with fewer certainties.

Then we will see an economic life closer to our biological environment: smaller companies,
richer ecology, no leverage. A world in which entrepreneurs, not bankers, take the risks and
companies are born and die every day without making the news.

In other words, a place more resistant to black swans.

Nassim Taleb On Precious Metals

Nassim Taleb authored two great books "The Black Swan" and "Fooled By Randomness". After reading either one, you conclude that this guy is really bright. "The Black Swan" continues to be a hot "buzzword" for the unpredictable rogue wave lurking out in the future.

Recently, he was quoted on his prediction for gold and copper. Bloomberg states:
The current global crisis is “vastly worse” than the 1930s because financial systems and economies worldwide have become more interdependent, “Black Swan” author Nassim Nicholas Taleb said. “This is the most difficult period of humanity that we’re going through today because governments have no control,” Taleb, 49, told a conference in Singapore today. “Navigating the world is much harder than in the 1930s.” The global economy is facing “big deflation,” though the risks of inflation are also increasing as governments print more money, Taleb told the conference organized by Bank of America- Merrill Lynch. Gold and copper may “rally massively” as a result, he added. Taleb, a professor of risk engineering at New York University and adviser to Santa Monica, California-based Universa Investments LP, said the current global slump is the worst since the Great Depression that followed Wall Street’s 1929 crash.