A Few Notes on Antifragile

December 10, 2012 • Posted in Big Ideas, Volatility Effects

Nassim Taleb introduces his 2012 book, Antifragile, Things That Gain from Disorder, as “…my central work. I’ve had only one master idea, each time taken to the next step, the last step–this book–being more like a big jump. I am reconnected to my ‘practical self,’ my soul of a practitioner, as this is a merger of my entire history as practitioner and ‘volatility specialist’ combined with my intellectual and philosophical interests in randomness and uncertainty… …the relationship of this book to The Black Swan would be as follows:…Antifragile would be the main volume and The Black Swan its backup of sorts, and a theoretical one, perhaps even its junior appendix. Why? Because The Black Swan (and its predecessor, Fooled by Randomness) were written to convince us of a dire situation, and worked hard at it; this one starts from the position that one does not need convincing that (a) Black Swans dominate society and history (and people, because of ex post rationalization, think themselves capable of understanding them); (b) as a consequence, we don’t quite know what’s going on, particularly under severe nonlinearities…” For investors, key points are:

Page 136 on achieving antifragility (as in a portfolio): “…the entire mission reduces to the central principle of what to do to minimize harm (and maximize gain) from forecasting errors, that is, to have things that don’t fall apart, or even benefit, when we make a mistake.”

Page 150 on an exploiter of fragility: “He identifies fragilities, makes a bet on the collapse of the fragile unit,…collects big after the collapse.”

Page 161 on the size of the antifragile bet: “If you put 90 percent of your funds in boring cash…, and 10 percent in very risky, maximally risky, securities, you cannot possibly lose more than 10 percent, while you are exposed to massive upside.”

Pages 174-175 on how to make the bet: “The option is an agent of antifragility. …the edge from optionality is in the larger payoff when you are right, which makes it unnecessary to be right too often.”

Pages 291-292, 294 on when to make the bet: “It all boils down to the following: figuring out if our miscalculations or misforecasts are on balance more harmful than they are beneficial, and how accelerating the damage is. …Simply do a small change in assumptions, and look at how large the effect, and if there is acceleration of such effect.”

In summary, most investors, thinking linearly, tend to undervalue (overvalue) antifragile (fragile) assets. The antifragile portfolio uses a small fraction of available funds to stay long (short) exceptionally antifragile (fragile) assets, pending unpredictable volatility spikes that drive their values dramatically up (down). Portfolio positions are asymmetrically leveraged (as with options) to limit downsides but not upsides. Position values tend to bleed slowly until unpredictably exploding upward. The balance of funds is idly as safe as possible.

Cautions regarding the author’s arguments include:

  • As suggested by the paucity of notes above, the book is much more philosophical than how-to.
  • The author does not demonstrate that the antifragile investment approach is reliably profitable over any horizon (and would likely say that “reliably” makes no sense here).

Nassim Taleb seems to place man, at least Homo Modernity (and created social constructs), outside the natural environment. It may be less hubristic to regard man (even Alan Greenspan) as part of nature. Why does nature allow the development of very fragile systems? Could fragile systems be a natural consequence of, and ultimate antidote for, overfeeding/crowding?

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