Mr. Taleb, once the renegade, redheaded stepchild of Wall Street for his disdain of financial models, regularity, and paradigms, has become the new hero as of late. His correct predictions about the market crash and other harbingers of financial misfortune he calls Black Swans has brought him credibility to those he only half mocks.
- In his book Fooled by Randomness, he throws around the idea of monkeys on typewriters. For example, you have a 1000 monkeys banging away on typewriters vs. one monkey doing the same thing, you might end up with interesting prose or maybe even a masterpiece from one out of 1000 monkeys (less likely with one chimp), but to say that a certain result was providence is a spurious conclusion. It's kind of an obvious thing, but that is, according to Mr. Taleb, what happens the majority of the time. The motif is that central idea of randomness, hence the title of the book.
- Then came The Black Swan, which warns of anything that smacks of a sure thing. A black swan is a highly improbable event with three characteristics: unpredictability; it has massive impact as in chain reaction; and, after the fact, there are explanation that makes it appear less random and more predictable - usually through modeling by plotting historical numbers or saying I knew it all along. People don't want to admit that most things can be unknowable, uncertainty is involved in anything. It's too scary and humans don't look very smart when they're proven completely wrong. He gets into more detail about this, but the take away is that there are many more people in this world wired to be artisans than there are people wired to be architects. People don't see the forest. They read the tea leaves and extrapolate out from that.
Nassim Taleb's books are enormously entertaining, erudite, and original.There's a lot of another renaissance thinker, Umberto Eco, in how he approaches things. Through reading his books, one thing that kept popping up was "why isn't this person bringing up the issue of ecology and monoculture?" He does make sweeping statements of applicability of Randomness and The Black Swan from the Macro to the Micro and it fits very well into Monoculture. The central premise is that you are left vulnerable because you define your parameters too narrowly, either through lack of foresight (laziness, ignorance) and/or design for increased efficiency and/or leverage increasing cost saving and profit returns (greed).
- Monoculture is the practice of producing or growing one single crop over a wide area. The term is mostly used in agriculture planting crops with the same patterns of growth resulting from genetic similarity and uniformity i.e. corn fields, forests or orchards. They are uniform in requirements (asset classes) and results in greater yields due to higher efficiency through standardization. This also includes the use of synthesized fertilizers (derivatives), which boost returns even more. What makes monoculture so great is also its Achilles heel. It applies to financial markets as well.
This kind of dependence tends to lead to catastrophic failures when a crop is susceptible to a pathogen or there's a change in weather. The important lesson to learn is not to replace the crop with another variant that might be completely immune to the original pathogen, but has absolutely no resistance to exactly one unknown pathogen, The Black Swan.
A remedy to avoid Black Swans would be in cultivating biodiversity or Polyculture in financial markets. There would still be vulnerabilities to pathogens/Black Swans, but the impact would be muted compared to a Monoculture system. Polyculture, though, can be less efficient, and may have a lower return. Ideas to transplant would be Crop Rotation, varying varieties of the same plant, Permaculture (includes Polyculture), and Reconciliation Ecology. We'll explore some of these concepts in later articles.
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