Nassem Nicholas Taleb and “black swans”

I am deeply grateful to Jason Hull for sharing the material that follows. It helps us to understand how and why Nassem Nicholas Taleb has earned his net worth ($69-billion) and world renown.  I am especially grateful to Taleb for his brilliant insights concerning “black swans.” That is, unpredictable events that are beyond what is normally expected of a situation and has potentially severe consequences. “Black swan events are characterized by their extreme rarity, their severe impact, and the practice of explaining widespread failure to predict them as simple folly in hindsight.

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  • He had the capital to make a lot of small bets. Every day, Taleb would put several hundred thousand dollars into the market in a series of small bets with tremendous upside if they worked. Then he played a waiting game. He only had to win occasionally for the strategy to work, but he also had to have the capital to withstand wrong bet after wrong bet after wrong bet.
  • He had sophisticated math and software to help him identify and make bets. He could screen out millions of different call and put options variations to identify what he thought was a mispriced opportunity.
  • He had the system, and therefore, the discipline to stick to his thesis. As he says, “It’s much harder to be the other guy, the guy losing money three hundred and sixty-four days out of three hundred and sixty-five, because you start questioning yourself. Am I ever going to make it back? Am I really right? What if it takes ten years? Will I even be sane ten years from now?”
  • He had experience in trading in the markets long before he started his hedge fund. He had immersed himself in data and in experience and knew how to build a system which would identify the opportunities for investments.
  • He had the quantity of capital to make a small net gain meaningful. The psychological trauma of watching your fund lose tens to hundreds of thousands of dollars a day while waiting for the fifty million dollar win must be agonizing. So, even if at the end of the year, he’s up 8-10%, it came at the cost of horribly wicked volatility, but he also probably made millions of dollars – life changing money. Could you stomach taking $50,000, doing the same approach in miniature, watch the value go down to, say $2,500, only to be up to $55,000 at the end of the year – a $5,000 gain? If you want or need the extra $5,000 so badly that you’re willing to take that sort of roller coaster ride with your wealth, come up with the ideas which will give you an equivalent pay raise at work or get a second job.
  • You can identify opportunities which will have a higher likelihood of payoff. You can take the same approach as Taleb and try to create your own black swans. If you can spend $1,000 to create a small business which eventually pays you something which resembles your current paycheck, you have created your own personal black swan.

If you’re itching to go hunting after black swans, by all means, go for it. However, don’t try to do it in the options market. Instead, create your own black swan and capture all the value you can out of it.

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Here is a direct link to the complete Hull article.

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