Media Spotlight: Fooled By Randomness By Nassim Nicholas Taleb
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This is an early book by Nassim Nicholas Taleb, author of the 2008 runaway publishing hit on the unpredictability of financial markets, The Black Swan.
The latter book garnered serious praise from a wide range celebrity fans including Tory leader David Cameron but does Taleb’s earlier effort say anything different?
The simple answer is no. In Fooled By Randomness Taleb’s chief preoccupation is the way financial
markets operate and the various ways
traders cope with probability.
And just as in The Black Swan Taleb provides a series of entertaining stories about traders he has known in his career on Wall Street.
So we meet his friend Nero Tulip, an expert on probability who carefully manages his trading book to avoid any major exposure to risk.
On the other hand we have Nero’s neighbour John who makes a mint as a trader, much to Nero’s chagrin as he considers him a lucky fool.
Taleb describes that when scientists inject monkeys with high levels of the happiness neurotransmitter serotonin the animals immediately rise up their family group’s pecking order.
He says a similar thing happens in humans so in his opinion it’s merely a combination of chemistry and false pride that makes a lucky fool like John look and temporarily act like a winner. Of course, when John’s luck runs out he inevitably loses his shirt.
The third way is the route taken by Taleb, who dubs it the skewed bet. With a skewed bet one benefits from extremely rare events.
Taleb quotes Jim Rogers, the legendary trader who along with George Soros co-founded the Quantum Fund, bad-mouthing long-term options chiefly because 90% of the time they lose money.
But Taleb argues that the 90% statistic is meaningless if you fail to take into account how much money is made on average during the remaining 10%.
Rogers warns that long-buying options is a route to the poorhouse but Taleb says that if 50% of these options pay out then this is a “way to the palazzo rather than the poorhouse”.
Which brings us to Taleb’s main area of expertise - making money on the back of rare events. He made his fortune in the Wall Street crash of 1987, and three years after he wrote Fooled By Randomness he made money again on the back of the credit crunch.
Due to his presentation of the three approaches to playing the market, as a reader there is obviously only one method that you end up siding with - Taleb’s. As the postscript to the book states, the risk-averse strategy of his friend Nero may be ultimately successful on the trading floor but risk is a part of life, as Nero’s fatal helicopter crash in Battersea Park on a windy day ultimately proves.
Another interesting section to muse over is Taleb’s concluding rant on the subject of executive pay. As he states, the perceived wisdom is that the higher up the corporate ladder, the bigger should be the compensation as those in the top jobs make the most important contributions.
But Taleb contends that, with the exception of risk-bearing entrepreneurs, the opposite is true. Dubbing this the inverse rule he says in reality the higher the position, the lower the contribution.
With everyone slagging off chancellor Alistair Darling’s bonus tax scheme, this could be just the moral justification the government is looking for.
Book review by Robert Thickett
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