If there is one author who has managed to stand out by approaching the theme of risk in a different way, it is Nassim Taleb. Through his previous works, the former trader manages to explain in a style accessible to the public; concepts that have to do with finance or the dimension of chance in general. Let’s take a look today at four books that will give us a better idea of the “Talibian thinking” and its consequences on the world around us.
Skin in the Game, Hidden Asymmetries in Daily Life
Playing with your skin
There are several parameters that influence the understanding of a problem. Risk, asymmetries, and a person’s involvement and vested interests in a situation can have a significant impact on how it is perceived.
Asymmetry in a transaction
The notion of asymmetry can appear when we talk about a transaction between a buyer and a seller. One can realize that, in some cases, the buyer lacks valuable information that the seller knows. This imbalance is obviously detrimental to the buyer and creates an injustice that morally invalidates the transaction. If in many countries such a situation is acceptable, there are countries where religious law delegitimizes such practices. One such example is the concept of “gharar” which refers to any transaction where there is doubt, risk of deception or ambiguity. This type of transaction is forbidden according to Koranic law.
The minority rule
The minority rule is simple, it states that no more than 3% of determined people in a group can change the behavior and choices of the whole group. This rule can be observed at all levels of society, from politics to food preferences to the programs you watch on television. Without realizing it, you have let the inflexible minority make the choice for you. However, this rule is not known to everyone and large groups are still paying the price. This is the case of Monsanto, which did not see that the inflexibility of those who did not want to consume GMOs could alone influence the rest of the population.
Playing with one’s skin, a way to achieve a certain respectability
There is a fairly confirmed tendency on the part of the population to give its respect to rich people who give the impression of having played their skin to succeed. This is true for entrepreneurs, top athletes or movie stars. In contrast to these people, there is a category of rich people who do not manage to gain the respect of the rest of the population, namely bureaucrats or executives. Their salary is perceived as indecent because it is not correlated with sufficient risk-taking as it might be with the other types of careers mentioned above.
Your skills are sometimes less important than your image depending on your profession
Professions where you don’t risk your skin leave more room for image worship. Since you do not suffer directly from the consequences of your incompetence, you can in some cases base your strategy on maintaining a certain image. This is obviously not true for jobs where you are playing for your life. If your incompetence can cost you your career or the lives of your patients (e.g. if you are a doctor), the image you maintain will be of little or no importance because only what you can deliver in terms of work will matter. Be aware of the type of profession you are in so as not to give too much importance to appearances.
The Black Swan, The Impact of the Highly Improbable
A black swan is an extreme event whose cost is very high but whose probability is very low. It can therefore be a crucial piece of information that we lack in a domain. Before the discovery of the first black swan, everyone was convinced that swans were all white and that white was one of their defining characteristics. The incorporation of this information forever changed the way people thought about swans, which is called a paradigm shift. This phenomenon is occurring in many fields from science to financial markets.
Information is your strength
A black swan event doesn’t hit people the same way. More often than not, what sets people apart is their level of knowledge. The more ignorant you are, the more risk you expose yourself to. Imagine that you want to invest in the stock market and you miss a key piece of information, only held by the management of the corresponding stock. Not knowing this information exposes you to making bad decisions. This is also true for scientific paradigm shifts that have had political and religious consequences in the past. Imagine how the Copernican revolution, the shift from an earth-centered to a heliocentric (sun-centered) worldview, confused both Catholic institutions and the powers that be.
The turkey syndrome
Our way of predicting the future is based on the past, which is in itself a good strategy most of the time because there is indeed a repetitiveness in the manifestation of phenomena. However, this way of thinking comes up against a cruel reality: the past only gives us a part of the overall picture. It is often to our detriment that we make mistakes in our predictions. Imagine for a moment that you are a turkey that has been fed daily by a farmer. This individual who brings you the products you need every day without fail can only be a holy man in your eyes. Alas, you find out far too late on the eve of Thanksgiving that your relationship can turn upside down: you are suddenly captured, then decapitated and your body ends up on the family dinner table right after being roasted in the oven. This is the reality we can find ourselves in – at least metaphorically – when we too often let the past dictate our judgments and actions.
Another flaw of the mind is that we only accept information that confirms our initial opinion of a subject, which is called the confirmation bias. Since thinking is energy consuming and tiring, our brain has found a way to follow the paths of our previous thoughts. Essentially, most of our time, we use our memory to go and get the ideas that we use to make a representation of the world. When we encounter information that is contrary to this vision, we tend to ignore it, neglect it, or get angry if we can’t avoid it. This bias is problematic for making the right decisions because it prevents us from looking at a subject from different angles, which is essential for gathering the maximum amount of information.
The narrative error
The narrative fallacy consists in explaining a sequence of facts only from a retrospective reading, trying to find meaning and logic in it. The human mind loves stories and it gives in all the more easily to the erroneous narration (most often by itself) of a sequence of events. This way of selecting information has played a role in our survival to give more importance to elements and thus to protect ourselves from danger. However, this approach often prevents us from seeing the real sequence of actions, which sometimes lies in a detail that we do not want to see because it is neither obvious nor flattering. The reality is that there is almost always an infinite number of reasons that can explain the fate of a life.
Distinguishing between scalable and non-scalable data
Our representation of the world also clashes with the nature of the data we process. There is a fundamental difference between scalable and non-scalable data. Our inability to distinguish between them can lead to errors in judgment. If you decide to represent the spectrum of human morphology, you are in the realm of non-scalable. There are indeed barriers imposed by nature that make exponential physical differences between individuals impossible. This is not true for the distribution of wealth. Thus, if you are trying to form a picture of the wealth of a country, you would be mistaken if you tried to calculate the average wealth per capita first and extrapolate to the rest of the population. Since a very small portion of the population usually has a large share of the wealth, your calculations will be far from reality. This same phenomenon can be observed in other areas. Scalability is not the norm in nature, which is why it is most often counterintuitive. Neglecting it leads to errors of judgment.
Know your limits
The best way to protect yourself from errors of judgment is to assume two things: we do not know everything and we are victims of cognitive biases. While it is of course difficult to assess the extent of our ignorance (which would be like taking the point of view of the one who knows), knowing how to recognize and integrate the fact that we do not have all the information to judge makes us more likely to avoid errors. Knowing that we don’t know is not just an adage, it is also a pragmatic way of representing the world. It is also important to know what the main cognitive biases are in order to avoid falling into the traps they set for us.
Antifragile: Things That Gain from Disorder
Fragility characterizes the nature of something that cannot withstand shocks that can damage or destroy it. What is fragile will tend to flee volatility because it increases the probability of encountering a shock. Fragility therefore seeks tranquility. But what is the opposite of fragility? Perhaps the first words that come to mind are robustness or resilience? This is not the case because something robust or resilient will not become stronger after one or more shocks. This is where the idea of antifragility comes from, which is defined as something that comes out stronger and more resilient after each shock. A good illustration of this idea can be found in mythology with the Lerna Hydra whose heads grew back twice after they were cut off. Each section made the creature technically twice as strong. We will see that this concept applies to other concrete situations or systems, but that these are often the exception in a world where fragility reigns.
The antifragility of a system is based on the fragility of its constituent elements
The concept of antifragility is most often applied to a system. For a system as a whole to be antifragile, it must allow its components a certain amount of room for manoeuvre that could correspond to a form of chance. For example, the evolution of species is a system as a whole that is antifragile. The species that survive are better adapted to life than those of previous generations. But if we look with a magnifying glass at the evolutionary process, we will notice that it will cause the disappearance of a significant number of members of each species. Individually the members of these species are therefore fragile but the system continues according to the idea of antifragility. The diversity of the species and the genetic mutations of each of its members are so many hypotheses, trials and errors until the “winning evolutionary combination” is found. Another antifragile system that relies on the fragility of its components is the non-financialized economy. This is made up of artisans, small and large companies. Although many companies and entrepreneurs are not successful, this does not prevent the economy from growing from year to year, even in times of crisis.
The body is a good example of antifragility
If there is one area of nature that is a good illustration of this concept, it is the muscle of the body that grows after every stress it endures. The micro-cracks it undergoes are all causes of its hypertrophy. Another interesting phenomenon is that nature tends to overcompensate for stress in order to anticipate greater stress. If this seems derisory and inefficient at first glance, it is because we do not measure the advantage of having extra muscle in rare but extreme and in some cases dangerous situations (overcompensation is linked to a survival mechanism). This additional capacity is one of the advantages of this overcompensation mechanism.
Fragility emerges from tranquility, antifragility needs volatility
Most antifragility is found in nature since human-made devices do not have the ability to react to a hostile environment. At most, they will be robust. Moreover, there is no point in seeking tranquility if one wants to create antifragile systems, it is on the contrary volatility that one must find. This can be illustrated by the ineffectiveness of measures aimed at subsidizing and “tranquilizing” the economy, which in essence thrives and strengthens in a volatile environment.
Taming risk: a way to learn to be antifragile
Anticipating the best and worst case scenarios allows you to secure your situation. Assuming that the worst case scenario will happen and having a limited risk-taking strategy in the event that the best case scenario does occur saves you from the negative consequences of a median strategy. For example, if you were to invest 100, it is antifragile to put 90 into something that will hold up in a severe crisis and put 10 into something that could rise dramatically if all goes well. This approach is more antifragile than putting 100 on moderately risky stocks.
Antifragility is built at the expense of something else
An antifragile system relies on the fragility of its constituent parts. This can also be true for certain professions, such as financial experts who benefit from the favorable consequences of their good predictions (prestige, remuneration, etc.) without suffering the negative consequences of their errors of judgment.
Volatility exposes the fragility of a system
If we suppress volatility, we risk hiding the flaws of a system that could remain dormant and go under the radar. Volatility exposes the imperfections of a system and allows it to always tend toward an antifragile state.
Other ideas from the book:
An antifragile system should not rely on the past to make predictions about the future. It thus avoids the turkey syndrome.
Antifragility is the engine of progress
Fooled by Randomness: The Hidden Role of Chance in Life and the Markets
We most often mistake luck for skill. The occasional extreme profitability of a trader is based in most cases on luck, which he underestimates in his success. The real skilled traders are not those who make a lot of money in a short period of time but those who consistently make (usually little) money over a long period of time.
Theory and predictions
Theory can never really describe reality in a definitive way. An empirical element can upset the certainties and serve as a basis for another theory. This is how it happens, new theories emerge to describe a new reality that the previous one had not seen. It is the same for future predictions, they cannot be based on past observations, there is no linearity in the course of events, it is only in retrospect that the logical sequence is observable.
The choices we make are not necessarily the best ones
Some of the standards that exist today are not related to their excellence or their advantages. More often than not, the choices that are made are the result of a desire to avoid friction. This can be illustrated by the arrangement of letters on a computer keyboard which is not optimized for speed (AZERTY, QWERTY etc.) but on the contrary for slowness in order to prevent the typewriters on which they originally appeared from jamming. For ease of use, for lack of friction (so that people don’t have to learn to type again), computer keyboards have followed the same layout.
The quality of our decisions is hampered by heuristics
To facilitate decision making for the purpose of survival, our brains have developed heuristics which are shortcuts to speed up our ability to make choices. If in a context of danger these are welcome, in normal situations they often prevent us from making the best decision. This makes us particularly helpless in today’s context, which is characterized by a profusion of information. These “thought paths” can constitute cognitive biases that alter our perception of reality. For example, we will tend to overestimate the value of something in which we would have invested time and energy and thus not be able to decide well accordingly.
Other ideas from the book:
Emotions can help us to speed up our decision making while at the same time being barriers to good judgment
We have an inability to measure the significance of rare events
The fruits of chance can be appreciated, but when their consequences are bad for us, we must react with philosophy and detachment as the Stoics advocate
We must not pay attention to the noise when listening to the news. The messages that are conveyed do not take into account the major trends. It is much better not to waste time and to read books that analyze events over a much longer period of time, the information will be much more accurate.