Black Swan

I have another excellent book to recommend: Nassim Taleb’s Black Swan (Taleb also wrote another favorite: Fooled by Randomness)

The book deals with a subject I’m always thinking about, the impact of improbable events. Taleb is an trader who seems to have made a career out of betting that improbable events may happen more frequently than most people predict, so he knows of what he speaks.

Taleb describes two countries, Mediocristan and Extremistan, which have very different characteristics. In Mediocristan, everything follows a bell shaped curve and is relatively easy to predict. He gives the example of the income of dentists, which tend to fall around an average and not vary too far from it. In Extremistan, however, things don’t follow a bell shaped curve and are almost impossible to predict. He gives the example of authors whose incomes are either extremely high (for very few) or extremely low (for the vast majority).

The reason he highlights this difference is a lot of people, especially academics in economics and finance, tend to assume that we live in Mediocristan even though we live in a world that resembles both Mediocristan and Extremistan. The height of people and the income of dentists are bell shaped, financial markets and the income of authors are not. The problem is that highly improbable events can easily overwhelm the highly probable events that most people focus on.

His point is important to acknowledge, because if you are measuring the height of people, bell shaped curves are great. But, if you are operating in financial markets, using bell shaped curves can be very dangerous (just ask the Nobel prize winners who worked with Long Term Capital Management).

I’m finding the book a pleasure to read because the subject matter is fascinating and relevant, and because I really enjoy his style of writing, which is laced with stories, examples and no punches pulled. Sometimes, he seems to be a bit arrogant in his way of describing things, but I’m usually more amused than offended by this.

I highly recommend the book to anyone operating in Extremistan for a living.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.