Thursday, 2 August 2012

The Black Swan: The Impact of the Highly Improbable by Nassim Nicholas Taleb

The Black Swan is all about being aware of those things that we don’t know, can’t predict and which are likely to have a large impact on our lives (what Taleb calls the ‘Black Swan’ event).   This book will change the way you think about the world and the way in which it operates.   It covers a broad range of topics all attempting to prove Taleb’s central idea that the future is unknown, any attempt to predict it is inherently flawed as the next big thing to influence our world (e.g. the computer, the internet, September 11) are all inherently unknown.
The Black Swan: The Impact of the Highly Improbable
This book has lessons for everyone but is especially interesting for investors and those interested in finance generally.   Among the broad variety of topics covered some of the most interesting are:

·         Forecasts are inherently flawed (especially over the long term) – how can you tell what is going to happen in 20 years time when you have no idea what innovations are going to take place in that time? (i.e. an example that the book uses is that in the early 1990s US government departments were using long term oil prices of $27 a barrel as a forecast assumption).  Also note the impaction the above has for temperature prices in the context of global warming (or climate change as it is now called)

·         Statistical inference from past events is also flawed as it does not consider the effects of the high impact unknown event.  To illustrate this Taleb uses the example of a turkey that is fattened up every day for its whole life – the turkey will assume that based on the last 1000 days of its experience it should be fed into the future (and we all know what happens around thanksgiving).  I found this particularly interesting especially when you view this idea in light of what happened to Long Term Capital Management (see my review of When Genius Failed here)

·         Modern finance is steeped in the idea of the bell curve which is based on a set of quite restrictive assumptions and historical experience – six sigma events are relatively common in finance markets (more than should statistically be the case anyway) and investors should not the probability of these at all times

·         So much of life (and financial success) is largely a matter of chance, however if you put yourself in chances way (i.e. those areas which have limited downside but are in the right spot to benefit from a positive black swan) then you are more able to take advantage of the black swan

Given the amount I obviously enjoyed the ideas in this book you may be wondering why I gave it such a (relatively) poor rating.  The reason is simply that this book needs to win some sort award for rambling and straying off topic.  I got bored and frustrated at this book putting it down at least 10 times before I could be bothered going back to it again.  The book feels like no one read it over before they hit print. 

What is also slightly frustrating (though remarkably common for academic writers) is that he is presenting his thesis as fact.  For example he presents the interesting idea that no one could have predicted the start of the Second World War and that we as students of history conveniently fit together the pieces of the puzzle with the benefit of hindsight.  Taleb uses bond prices and the tendency of spreads to widen and the fact that this didn’t happen as evidence supporting this theory.  Don’t get me wrong – it is a very interesting theory however Taleb leads us to believe that anyone who doesn’t support this point of view has their heads in the sand, are arrogant or at worst stupid.  Taleb is remarkably condescending of those who have alternative points of view while he presents himself, and others who believe the same things that he does as the only examples of those who understand the way the world works.  While a reader will probably find this slightly annoying while reading through the book it doesn’t take away from the value of the message.

Aside from these glaring flaws (and the fact that you will probably get bored at some point reading this book) I think The Black Swan has real value to most readers.  It probably isn’t a book I’d sit down and read again however the ideas are going to stay with me for a very long time.

·         Opens the readers eyes to the unknown and the large impacts these can have in our lives
·         Allows the reader to evaluate the information they have about the world in a different framework.  Especially good for evaluating what the reader thinks is going to happen in the future
·         Ably demonstrates the flaws of modern finance and statistical reasoning especially around forecasting and predicting the future

·         Rambling and boring – this book has the best ideas presented in the worst possibly way
·         As indicated above the author is supremely confident in his own ideas and as a result intellectually snobbish and arrogant
·         While the book doesn’t assume a great deal of prior knowledge before reading the book it certainly helps with understanding what the author is talking about as he doesn’t simply step through ideas and concepts so everyone can understand it

·         While there are significant flaws in the way this book is written (I think I’ve mentioned rambling several times by now) I would still recommend it to everyone – the concepts presented in this book are not limited only to investing and finance however investors would do well to keep these in mind when putting their hard earned money to work
·         I recommend reading this book slowly over a couple of weeks (perhaps a chapter at a time).  I found it helped to think about the concepts in this book with reference to those things I take for granted and also those things I believed blindly from the ‘experts’

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