The Black Swan

My original intention was to write a longish post discussing the main ideas. Rather I will do an overall impression here, and then do a few follow ups to talk about what I think are the interesting points.

All up I found The Black Swan an very interesting read. If you’ve read fooled by randomness then some of the arguments will have already appeared but certainly not all. The Black Swan is concerned with wild randomness, the randomness that according to Taleb dominates modern society. Fool by randomness largely concerns the randomness of games, what Taleb would describe as mild randomness. So mild that it is hardly random at all.

As we are reminded in several places in the book Taleb made his fuck off money (i.e. enough money to be comfortably independent even if not mega wealthy) in the 87 stockmarket crash betting on the fact that the market under-appreciated Black Swans. He doesn’t need to fawn to the establishment be it economics, philosophy or publishing and we get this tone all through the book.

While the book touches on finance applications its hardly a finance book. Rather Taleb considers it to be as much a work of Epistomology. His chief concern is with what he calls epistemic arrogance. He hates those who profess to know more than they really do know, be they economic modellers, historians or political scientists, but his chief enemy is the normal distribution which is described as the Great Intellectual Fraud. To use normal distributions in fields where it is easy to show are not normal (such as finance), is both fraudulent and causes Black Swans.

Its strong stuff which he backs with examples, logic and the findings of behavioural finance and similar studies. Its also fairly convincing for the most part. Its true we don’t need sophisticated statistical studies to find whether market moves are normally distributed. We only need the fact that we get 1 in 10,000 year events (as modelled by a normal distribution) occurring every few years. Risk managers who run such models (such as me) are either ignorant fools, who actually believe wrongly in what they do, or deceptive frauds who know better but persist in fooling others for the money. I’d contend I’m neither but I’ll discuss later on.

Anyway I leave the rest to further discussion. I particularly want to mention the Narrative Fallacy, which I have actually mentioned before, the problem of prediction as well as whether I really am a fraud, idiot, or neither.

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5 Responses to The Black Swan

  1. I’ve been meaning to write about/review this book for a while, now, so I’m very interested to read this. I’m particularly interested in this comment: “Risk managers who run such models (such as me) are either ignorant fools, who actually belive wrongly in what they do, or deceptive frauds who know better but persiste in fooloing others for the money.”.

    I’m reluctantly adopting that kind of model at the moment, since everyone else in my organisation does, but struggling with how to keep a straight face when we all talk about 1 in 2000 risks (or pretty much anything above 1 in 40). Love to hear your further discussion.

  2. Steve says:

    Yes. Well back testing our own models seems to show that they are fairly accurate to say 1 in 100 I think. We include some non-normality which I think gets us accurate to that level with reasonable accuracy I think. However its clear from back testing to extrapolate this model to say 1 in 1000 events it is just wrong. We have a couple of events in a 500 day time series well above what it would predict as 1 in 1000.

    I’ll discuss this more when I post on it again.

  3. […] of risk models (or do I trust my VAR calculations) To continue some of the stuff raised in The Black Swan I’ll discuss Taleb’s attack on financial models based on the normal distribution, this […]

  4. Rod Clarke says:

    Hi Steve – Welcome back

    On your advice I also picked up foolled by randomness.

    Das has a new book out now called “Traders Guns and Money” which is also a good read.

    Althought I agree with NNT on a lot of things I disagree with what he has to say about Risk Managers.

    Most Risk mnanagers I know are accutely aware of the limitataions of VAR and the assumption of a normal distribution and therefore also perform stress testing and shock testing to the portfolios.

    Congrats on Baby # 2

  5. Hello to every one, since I am actually keen of reading this web site’s
    post to be updated on a regular basis. It carries fastidious stuff.

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