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blackswan Nassim-Nicholas-Taleb-006

From the man who brought to us ‘Fooled by Randomness’ comes another epic, sweeping masterpiece that is guaranteed to change the way you think – The Black Swan! Nassim Taleb is back with this stunning intellectual work on probability theory, philosophy, psychology and epistemology!

This famous quant trader, financier, philosopher and pseudo-psychologist explores the nature of what he calls ‘Black Swans’ – the highly improbable events that leads to massive consequences. Taleb begins the book with the story of mankind’s discovery of black swans on earth. Some time ago our not-so-distant ancestors thought that all swans are white, because it has been empirically observed in all known lands that the swans are all white. Until one fine day the discovery (from the perspective of the Europeans) of Australia led to the observation of a black swan. Surprise! The notion of all swans being white has to be discarded and all scientific records updated. This is the typical ‘Black Swan’ event that Taleb coins – an event thought to be highly improbable but if materialized, often comes with massive consequences.

Taleb brought up further examples of Black Swan events like the rise of Hitler, the breakup of the Soviet Union, the rise of Islamic Fundamentalism, the September 11 Attacks. All of them bearing massive consequences to the world and yet once deemed to be highly improbable. Taleb also leads a polemic against the Gaussian Theory (Bell Curve/Normal Distribution) and the use of it in risk management plans. He adopts an interesting approach based on what he calls himself: ‘an empirical skeptic’

Taleb also warns us with how we deal with our acquired knowledge. Have an antilibrary (library with books not read) and antiknowledge. We should be focused on what we do not know rather than what we know and what we specialize in. He talks about epistemic fallacies (ludic, narrative) and what he calls ‘tunneling’ and how these are unavoidable; being inherent in our human natures, and how these would lead to us being unaware of Black Swans.

Anyone dealing with probabilities and uncertainty should understand the nature of risk that they are assuming. Like George Soros, Taleb believes in the Greater Uncertainty principle, and challenges his readers to accept that the world is certainly more random than it is.

Written for the layman and for people who deal and live with uncertainty and risk (like entrepreneurs and investors), famous investors like Barton Biggs and Howard Marks have also enjoyed Taleb’s works and contributions to our understanding of risk and the human condition. An epic masterpiece that covers a wide range of disciplines from Medicine to History and to Finance, from Cicero to Bertrand Russell, from Mandelbrot and Gauss to Henri Poincaré. A book that would challenge your presumptions and academic assumptions, and a book that would help you remain a critical thinker in this society drowned with opinions popularized by the media.

A short and brilliant excerpt from his book:

“How To Learn From The Turkey

The uberphilosopher Bertrand Russell presents a particularly toxic variant of my surprise jolt in his illustration of what people in his line of business call the Problem of Induction or Problem of Inductive Knowledge (capitalized for its seriousness) – certainly the mother of all problems in life. How can we logically go from specific instances to reach general conclusions? How do we know what we know? How do we know that what we have observed from given objects and events suffices to enable us to figure out their other properties? There are traps built into any kind of knowledge gained from observation.

Consider a turkey that is fed every day. Every single feeding will firm up the bird’s belief that it is the general rule of life to be fed every day by friendly members of the human race “looking out for its best interests,” as a politician would say. On the afternoon of the Wednesday before Thanksgiving, something unexpected will happen to the turkey. It will incur a revision of belief.

The rest of this chapter will outline the Black Swan problem in its orginal form: How can we know the future, given knowledge of the past; or, more generally, how can we figure out properties of the (infinite) unknown based on the (finite) known? Think of the feeding again: What can a turkey learn about what is in store for it tomorrow from the events of yesterday? A lot, perhaps, but certainly a little less than it thinks, and it is just that ‘little less’ that may make all the difference.

The turkey problem can be generalized to any situation where the same hand that feeds you can be the one that wrings your neck. Consider the case of the increasingly integrated German Jews in the 1930s – or my description in Chapter 1 of how the populaiton of Lebanon got lulled into a false sense of security by the appearance of mutual friendliness and tolerance.

Let us go one step futher and consider induction’s most worrisome aspect: learning backward. Consider that the turkey’s experience may have, rather than no value, a negative value. It learned from observation, as we are all advised to do (hey, after all, this is what is believed to be the scientific method). Its confidence increased as the number of friendly feedings grew, and it felt increasingly safe even though the slaughter was more and more imminent. Consider that the feeling of safety reached its maximum when the risk was at the highest! But the problem is even more general than that; it strikes at the nature of empirical knowledge itself. Something that has worked in the past, until – well, it unexpectedly no longer does, and what we have learned from the past turns out to be at best irrelevant or false, at worst viciously misleading.

The Chart below provides the prototypical case of the problem of induction as encountered in real life. You observe a hypothetical variable for one thousand days. It could be anything (with a few mild transformations): book sales, blood pressure, crimes, your personal income, a given stock, the interest on a loan, or Sunday attendance at a specific Greek Orthodox church. You subsequently derive solely from past data a few conclusions concerning the properties of the pattern with projections for the next thousand, even five thousand, days. On the one thousand and first day – boom! A big change takes place that is completely unprepared for by the past.

Consider the surprise of the Great War. After the Napoleonic conflicts, the world had experienced a period of peace that would lead any observer to believe in the disappearance of severely destructive conflicts. Yet, surprise! It turned out to be the deadliest conflict, up until then, in the history of mankind.

Note that after the event you start predicting the possibility of other outliers happening locally, that is, in the process you were just surprised by, but not elsewhere. After the stock market crash of 1987 half of America’s traders braced for another one every October – not taking into account that there was no antecedent for the first one. We worry too late -ex post. Mistaking a naive observation of the past as something definitive or representative of the future is the one and only cause of our inability to understand the Black Swan.

It would appear to a quoting dilettante – i.e., one of those writers and scholars who fill up their texts with phrases from some dead authority- that, as phrased by Hobbes, “from like antecedents flow like consequents.” Those who believe in the unconditional benefits of past experience should consider this pearl of wisdom allegedly voiced by a famous ship’s captain:

But in all my experience, I have never been in any accident… of any sort worth speaking about. I have seen but one vessel in distress in all my years at sea. I never saw a wreck and never have been wrecked nor was I ever in any predicament that threatened to end in disaster of any sort.                                 – E.J. Smith, 1907, Captain, RMS Titanic

Captain Smith’s ship sank in 1912 in what became the most talked about shipwreck in history.”