Fooled By Randomness

Fooled By RandomnessI’ve just finish to read this good (very good) book “Fooled By Randomness”. Talab is an ‘old friend’ of mine… since the happy days of “The Black Swan“.

In this book Talab describe the idea that modern humans are often unaware of the very existence of randomness. They tend to explain random outcomes as non-random through ‘scientific’ data analysis. This over-indulgence on data is not only detrimental but also often catastrophic.

The main lessons are powerful and frightening.

* How much can you rely on the track records of companies,  advisers, fund managers, newspapers, or even the market as a whole in making decisions about your investment portfolio? Not as much as you probably think (almost not at all).

* As for the Black Swan: A large-impact, hard-to-predict, and rare event beyond the realm of normal expectations. Taleb regards many scientific discoveries as black swans—”undirected” and unpredicted. He gives the rise of the Internet, the personal computer, World War I, as well as the September 11, 2001 attacks as examples of Black Swan events.

* Survivor-ship bias: We see (just!) the winners and “learn” from them, while forgetting the huge unseen cemetery of losers.

* Skewed distributions: Many real life phenomena are not 50:50 bets like tossing a coin, but have various unusual and counter-intuitive distributions. Example: a 99:1 bet where you almost always win, but when you lose you lose all your savings.

* Taleb Distribution: Applied to situations in which there is a high probability of a small gain, and a small probability of a very large loss. If you sold options in your past – this is a good example of such a case. Another way to think about it, is on insurance company – with high probability they are making money until ‘Katerina’ hit New Orleans (small probability) and for some it’s ‘game over’.
In these situations the expected value is (very much) less than zero, but this fact is camouflaged by the appearance of low risk and steady returns.

So you ask what are the main actions? Well, I would think that Talab (like Gladwell) is not reluctant to make decisions base on instinct (=’Blink’) due to the fact that deep analysis is not helpful. As for Black Swan – be aware of them, because they might put you out of your game.

And this is another good one…

“…The best test of whether someone is extremely stupid (or extremely wise) is whether financial and political news makes sense to him.”


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