05 May Antifragile by Nassim Nicholas Taleb
The “Black Swan” hit the tipping point with the financial world and it appears to me that most investors and traders are aware of the concept. A Black Swan is a rare event with significant consequences and it is unpredictable. Nassim Taleb is the author of The Black Swan and Fooled by Randomness. While the Black Swan is understood by most, Taleb did not offer a solution for such events and readers were left with a “so what” situation – How should one position for the Black Swan? Antifragile is a continuation of this discussion and he seeks to explain how one can benefit from a Black Swan event. In the prologue, Taleb mentioned Antifragile is his magnum opus (greatest work). It culminates the ideas from all his books (including two other less known works – Dynamic Hedging and The Bed of Procrustes) and experiences as a pit trader and an academic. He captured numerous observations and thoughts in this book, and most often than not, they were criticisms of how our current society is ran – politics, financial industry, pharmaceutical industry, and academia. (He favours Mother Nature, Silicon Valley, and aviation industry.) Hence, this book went beyond what investors and traders are used to, and as a reader, you should be prepared for heavy doses of philosophical musings. I read this book during my trip to Taiwan, and his arguments and ideas kept me thinking all this while. This is where I know it is a darn good book.
What is antifragile?
Antifragile is not an English word and it is invented by Taleb. He coined it when he found no suitable word to describe the opposite of fragile. Most people would think along the lines of ‘robust’ and ‘resilient’ but he explained the differences.
- Fragile – vulnerable to shocks
- Robust – resistant to shocks
- Antifragile – benefits from shocks
So antifragile goes beyond robust, as it loves shocks and uncertainties because it benefits from them.
Antifragility loves stressors
As a keen observer of Mother Nature, he saw examples of antifragilities in living things. Our bodies need to be stressed once in a while in order to be stronger. Taleb shared his story of his body building trainer, who always lifted the maximum weight he could, and he would take a few days to rest for the body to recover. Each time, he found that the body more than recovered – muscle density increased in anticipation for heavier load to be lifted. Our bodies are antifragile!
An Unfair World
Although the body as a whole became stronger, muscle fibres were torn in the process of lifting the maximum weight. This goes on to show that in order for the system to become stronger, some parts of the system, the weaker ones, have to be sacrificed. This is a very harsh reality that most people will think it is unfair. But Mother Nature does natural selection this way – only the strongest and most adaptable survives. Taleb salutes the risk taking of Silicon Valley. He sees Silicon Valley as an example of antifragility. There are many entrepreneurs in this industry and most of them will fail. But they fail small. These sacrifices are necessary in order for natural selection to take place, and in the process, highly successful technopreneurs will be produced. This is what Taleb believes is the real edge of the United States.
“[S]ome parts on the inside of a system may be required to be fragile in order to make the system antifragile as a result. Or the organism itself might be fragile, but the information encoded in the genes reproducing it will be antifragile. The point is not trivial, as it is behind the logic of evolution. This applies equally to entrepreneurs and individual scientific researchers.”
“Nietzsche’s famous expression “what did not kill me did not make me stronger” can be easily misinterpreted… it could as well mean “what did not kill me did not make me stronger, but spared me because I am stronger than others; but it killed others and the average population is now stronger because the weak are gone.”
We are programmed to be overconfident
Since the odds of entrepreneurial (investment, trading, or whatever) success is so low, why would people still want to try? There is a bias within us called ‘overconfidence’. We often believe we are better than someone else or the average. I think I am a better than the average driver. I also think I am better than the average investor. Do you have the same bias as me?
“Natural and naturelike systems want some overconfidence on the part of individual economic agents, i.e., the overestimation of their chances of success and underestimation of the risks of failure in their businesses, provided their failure does not impact others. In other words, they want local, but not global, overconfidence.”
In other words, nature or naturelike systems want as many people to participate so that they have the diversity to choose from. Overconfidence of individuals create optionality for the system.
No stability without volatility
What an irony – “No stability without volatility”. Taleb believes that humans’ yearn for order and their actions to tame volatility is causing fragility in systems.
“[A]ntifragile systems are hurt when they are deprived of their natural variations… We switch from a [antifragile] system that produces steady but controllable volatility (Mediocristan), closer to the statistical “bell curve” , into one that is highly unpredictable and moves mostly by jumps, called “fat tails” [Extremistan]… One is volatile; it fluctuates but does not sink. The other sinks without significant fluctuations outside of episodes of turmoil. In the long run the second system will be far more volatile – but volatility comes in lumps. When we constrain the first system we tend to get the second outcome.”
Some examples from Taleb to illustrate the impact of suppressing volatility,
“Small forest fires periodically cleanse the system of the most flammable material, so this does not have the opportunity to accumulate. Systematically preventing forest fires from taking place “to be safe” makes the big one much worse. For similar reasons, stability is not good for the economy: firms become very weak during long periods of steady prosperity devoid of setbacks, and hidden vulnerabilities accumulate silently under the surface – so delaying crises is not a very good idea.”
Intervene or not?
This love of intervention came naturally to humans. Because
“It’s much easier to sell “Look what I did for you” than “Look what I avoided for you.”… I’ve looked in history for heroes who became heroes for what they did not do, but it is hard to observe nonaction; I could not find any.”
“[D]octors need to justify their salaries and prove to themselves that they have a modicum of work ethic, something that “doing nothing” doesn’t satisfy.”
“Consider the iatrogenics of newspapers. They need to fill their pages every day with a set of news items – particularly those news items also dealt with other newspapers. But to do things right, they ought to learn to keep silent in the absence of news of significance. Newspapers should be of two-line length on some days, two hundred pages on others – in proportion with the intensity of the signal. But of course they want to make money and need to sell us junk food.”
However, he is not saying not to intervene and leave everything alone. His point is to avoid naïve intervention and not all interventions. Interventions during emergencies are necessary, or
“As a rule, intervening to limit size (of companies, airports, or sources of pollution), concentration, and speed are beneficial in reducing Black Swan risks.”
Beware of theories
Taleb warned us about theories because most often than not, practice came before theories and not the conventional thinking that theories lead to practical applications. He sees this misconception in all areas of modern society – physics, technology, biology, finance, etc. He quoted the example of bicycle riding, where you learn how to ride as a child without the need to understand aerodynamics. He emphasised the importance of practice over theories and the following quotes sum it up,
“[W]e had proof after proof that traders had vastly, vastly more sophistication than the formula. And their sophistication preceded the formula by at least a century. It was of course picked up through natural selection, survivorship, apprenticeship to experienced practitioners, and one’s own experience.”
“Practitioners don’t write; they do. Birds fly and those who lecture them are the ones who write their story. So it is easy to see that history is truly written by losers with time on their hands and a protected academic position.”
- Stop scheduling lives. Creating too much order in your children’s lives deny them to learn how to respond to uncertainties in the real world.
- Don’t take health supplements. Don’t take medicine unless it is really necessary.
- Don’t shame failures. “America’s asset is, simply, risk taking and the use of optionality, this remarkable ability to engage in rational forms of trial and error, with no comparative shame in failing, starting again, and repeating failure.”
- I want to be rich but not ultra rich. “This kind of sum I’ve called in my vernacular “f*** you money” – a sum large enough to get most, if not all, of the advantages of wealth (the most important one being independence and the ability to only occupy your mind with matters that interest you) but not its side effects, such as having to attend a black-tie charity event and being forced to listen to polite exposition of the details of a marble-rich house renovation.”
- Having options is advantageous. You can evaluate options based on payoffs. Choose the one with the highest upside and lowest downside. “[I]f you face n options, invest in all of them in equal amounts. Small amounts per trial, lots of trials, broader than you want. Why? Because in Extremistan, it is more important to be in something in a small amount than to miss it. As one venture capitalist told me: “The payoff can be so large that you can’t afford not to be in everything.”
- Seek to remove rather than to add – “For antifragility is the combination aggressiveness plus paranoia – clip your downside, protect yourself from extreme harm, and let the upside, the positive Black Swans, take care of itself. We saw Seneca’s asymmetry: more upside than downside can come simply from the reduction of extreme downside rather than improving things in the middle.”
- Learn from practitioners. “[I] realised that for someone to help me, he had to be both a practitioner and a researcher, with practice coming before research.” “Never ask anyone for their opinion, forecast, or recommendation. Just ask them what they have – or don’t have – in their portfolio.”
- Don’t be a turkey or a sucker in the markets. “Our mission in life becomes simply “how not to be a turkey,” or, if possible, how to be a turkey in reverse – antifragile, that is.” “Not being a turkey” starts with figuring out the difference between true and manufactured stability.”
- Look for disconfirming evidence. “[S]ince one small observation can disprove a statement, while millions can hardly confirm it, disconfirmation is more rigorous than confirmation.”