Fooled by Randomness

by Nassim Nicholas Taleb

  All or None

  A few confusions with the message in this book. Just as our brain does not easily make out probabilistic shades (it goes for the oversimplifying “all-or-none”), it was hard to explain that the idea here was that “it is more random than we think” rather than “it is all random.” I had to face the “Taleb, as a skeptic, thinks everything is random and successful people are just lucky.” The Fooled by Randomness symptom even affected a well-publicized Cambridge Union Debate as my argument “Most City Hotshots are Lucky Fools” became “All City Hotshots are Lucky Fools” (clearly I lost the debate to the formidable Desmond Fitzgerald in one of the most entertaining discussions in my life—I was even tempted to switch sides!). The same delusion of mistaking irreverence for arrogance (as I noticed with my message) makes people confuse skepticism for nihilism.

  Let me make it clear here: Of course chance favors the prepared! Hard work, showing up on time, wearing a clean (preferably white) shirt, using deodorant, and some such conventional things contribute to success—they are certainly necessary but may be insufficient as they do not cause success. The same applies to the conventional values of persistence, doggedness and perseverance: necessary, very necessary. One needs to go out and buy a lottery ticket in order to win. Does it mean that the work involved in the trip to the store caused the winning? Of course skills count, but they do count less in highly random environments than they do in dentistry.

  No, I am not saying that what your grandmother told you about the value of work ethics is wrong! Furthermore, as most successes are caused by very few “windows of opportunity,” failing to grab one can be deadly for one’s career. Take your luck!

  Notice how our brain sometimes gets the arrow of causality backward. Assume that good qualities cause success; based on that assumption, even though it seems intuitively correct to think so, the fact that every intelligent, hardworking, persevering person becomes successful does not imply that every successful person is necessarily an intelligent, hardworking, persevering person (it is remarkable how such a primitive logical fallacy—affirming the consequent—can be made by otherwise very intelligent people, a point I discuss in this edition as the “two systems of reasoning” problem).

  There is a twist in research on success that has found its way into the bookstores under the banner of advice on: “these are the millionaires’ traits that you need to have if you want to be just like those successful people.” One of the authors of the misguided The Millionaire Next Door (that I discuss in Chapter 8) wrote another even more foolish book called The Millionaire Mind. He observes that in the representative cohort of more than a thousand millionaires whom he studied most did not exhibit high intelligence in their childhood and infers that it is not your endowment that makes you rich—but rather hard work. From this, one can naively infer that chance plays no part in success. My intuition is that if millionaires are close in attributes to the average population, then I would make the more disturbing interpretation that it is because luck played a part. Luck is democratic and hits everyone regardless of original skills. The author notices variations from the general population in a few traits like tenacity and hard work: another confusion of the necessary and the causal. That all millionaires were persistent, hardworking people does not make persistent hard workers become millionaires: Plenty of unsuccessful entrepreneurs were persistent, hardworking people. In a textbook case of naive empiricism, the author also looked for traits these millionaires had in common and figured out that they shared a taste for risk taking. Clearly risk taking is necessary for large success—but it is also necessary for failure. Had the author done the same study on bankrupt citizens he would certainly have found a predilection for risk taking.

  I was asked to “back up the claims” in the book with the “supply of data,” graphs, charts, diagrams, plots, tables, numbers, recommendations, time series, etc., by some readers (and by me-too publishers before I was lucky to find Texere). This text is a series of logical thought experiments, not an economics term paper; logic does not require empirical verification (again there is what I call a “round-trip fallacy”: It is a mistake to use, as journalists and some economists do, statistics without logic, but the reverse does not hold: It is not a mistake to use logic without statistics). If I write that I doubt that my neighbor’s success is devoid of some measure, small or large, of luck, owing to the randomness in his profession, I do not need to “test” it—the Russian roulette thought experiment suffices. All I need is to show that there exists an alternative explanation to the theory that he is a genius. My approach is to manufacture a cohort of intellectually challenged persons and show how a small minority can evolve into successful businessmen—but these are the ones who will be visible. I am not saying that Warren Buffett is not skilled; only that a large population of random investors will almost necessarily produce someone with his track records just by luck.

  Missing a Hoax

  I was also surprised at the fact that in spite of the book’s aggressive warning against media journalism I was invited to television and radio shows in both North America and Europe (including a hilarious dialogue de sourds on a Las Vegas radio station where the interviewer and I were running two parallel conversations). Nobody protected me from myself and I accepted the interviews. Strangely, one needs to use the press to communicate the message that the press is toxic. I felt like a fraud coming up with vapid sound bites, but had fun at it.

  It may be that I was invited because the mainstream media interviewers did not read my book or understand the insults (they don’t “have the time” to read books) and the nonprofit ones read it too well and felt vindicated by it. I have a few anecdotes: A famous television show was told that “this guy Taleb believes that stock analysts are just random forecasters” so they seemed eager to have me present my ideas on the program. However, their condition was that I make three stock recommendations to prove my “expertise.” I didn’t attend and missed the opportunity for a great hoax by discussing three stocks selected randomly and fitting a well-sounding explanation to my selection.

  On another television show I mentioned that “people think that there is a story when there is none” as I was discussing the random character of the stock market and the backfit logic one always sees in events after the fact. The anchor immediately interjected: “There was a story about Cisco this morning. Can you comment on that?” The best: When invited to an hour-long discussion on a financial radio show (they had not read Chapter 11), I was told a few minutes before to refrain from discussing the ideas in this book because I was invited to talk about trading and not about randomness (another hoax opportunity certainly, but I was too unprepared for it and walked out before the show started).

  Most journalists do not take things too seriously: After all, this business of journalism is about pure entertainment, not a search for truth, particularly when it comes to radio and television. The trick is to stay away from those who do not seem to know that they are just entertainers (like George Will, who will appear in Chapter 2) and actually believe that they are thinkers.

  Another problem was in the interpretation of the message in the media: This guy Nassim thinks that markets are random, hence they are going lower, which made me the unwilling bearer of catastrophic messages. Black swans, those rare and unexpected deviations, can be both good and bad events.

  However, media journalism is less standardized than it appears; it attracts a significant segment of thoughtful people who manage to extricate themselves from the commercial sound bite–driven system and truly care about the message rather than just catching the public’s attention. One naive observation from my conversations with Kojo Anandi (NPR), Robin Lustig (BBC), Robert Scully (PBS), and Brian Lehrer (WNYC) is that the nonprofit journalist is altogether another intellectual breed. Casually, the quality of the discussion correlates inversely with the luxury of the studios: WNYC, where I felt that Brian Lehrer was making the greatest effort at getting into the arguments, operates out
of the shabbiest offices I have seen this side of Kazakhstan.

  One final comment on the style. I elected to keep the style of this book as idiosyncratic as it was in the first edition. Homo sum, good and bad. I am fallible and see no reason to hide my minor flaws if they are part of my personality no more than I feel the need to wear a wig when I have my picture taken or borrow someone else’s nose when I show my face. Almost all the book editors who read the draft recommended changes at the sentence level (to make my style “better”) and in the structure of the text (in the organization of chapters); I ignored almost all of them and found out that none of the readers thought them necessary—as a matter of fact, I find that injecting the personality of the author (imperfections included) enlivens the text. Does the book industry suffer from the classical “expert problem” with the buildup of rules of thumb that do not have empirical validity? More than half a million readers later I am discovering that books are not written for book editors.

  ACKNOWLEDGMENTS

  FOR THE UPDATED SECOND EDITION

  Out of the Library

  The book helped me break out of my intellectual isolation (not being a full-time academic offers plenty of benefits, such as independence and the avoidance of the dull parts of the process, but it comes at the cost of seclusion). I made many interesting dinner companions and pen pals among lucid thinkers through the first edition, and, thanks to them, I was able to make a second pass on some of the topics. In addition, I have gotten closer to my dream life thanks to the stimulation of discussion with people who share my interests; I feel that I need to pay the book back for that. There seems to be some evidence that conversations and correspondence with intelligent people is a better engine for personal edification than plain library-ratting (human warmth: Something in our nature may help us grow ideas while dealing and socializing with other people). Somehow there was the pre-and post-Fooled life. While the acknowledgments for the first edition hold more than ever, I would like to add here my newly incurred debt.

  Shrinking the World

  I first met Robert Shiller in person as we were seated next to each other at a breakfast panel discussion. I found myself inadvertently eating all the fruits on his plate and drinking his coffee and water, leaving him with the muffins and other unfashionable food (and nothing to drink). He did not complain (he may have not noticed). I did not know Shiller when I featured him in the first edition and was surprised by his accessibility, his humility, and his charm (by some heuristic one does not expect people who have vision to be also personable). He later drove me to a bookstore in New Haven, showed me Flatland, a scientific parable dealing with physics that he read when he was in high school, and told me to keep this book as it was in the first edition: short, personal, as close to a novel as possible, something I kept in mind throughout the exercise of this reworking (he tried to convince me to not do this second edition, I begged him to do a second one of his own Irrational Exuberance, be it only for my own consumption; I think that I won both points). Books have bubble dynamics of the type discussed in Chapter 10, a matter that makes an extra edition of an existing book far more likely to break through the critical point than a new one (network externalities make religions and fads fare incrementally better in their second editions than brand-new ones). The physicist and crash theorist Didier Sornette provided me with convincing arguments for the effectiveness of a second version; we are surprised that book publishers who thrive on informational cascades are not conscious of the point.

  During much of the rewriting of this book I was under the energizing influence of two intense dinner conversations in Italy with Daniel Kahneman, which had the effect of “pushing” me to the next critical point of intellectual drive, after I saw that his work went so much deeper than mere rational choice under uncertainty. I am certain that his influence on economics (including the Nobel medal) focused people away from the breadth and depth and the general applicability of his discoveries. Economics is boring stuff, but His work matters I kept telling myself, not just because he is an empiricist, not just because of the contrast of the relevance of his work (and personality) with those of the other recent Nobel economists, but because of its far-reaching implications on far worthier questions: (a) He and Amos Tversky helped stand on its head the notion of man that we owe to the dogmatic rationalism of the Hellenistic age and which held for twenty-three centuries, with all the damaging consequences that we know of now; (b) Kahneman’s important work is on utility theory (in its different stages) with consequences on such significant things as happiness. Now understanding happiness is a real pursuit.

  I had lengthy discussions with Terry Burnham, the biologist and evolutionary economist and co-author of Mean Genes, that unpretentious introduction to evolutionary psychology, who coincidentally turned out to be best friends with Jamil Baz, the childhood friend who was my sounding board with my early introspections on randomness two decades ago. Peter McBurney got me involved with the Artificial Intelligence community, which seems to fuse together the fields of philosophy, cognitive neuroscience, mathematics, economics, and logic. He and I started a voluminous correspondence on the various theories of rationality. Michael Schrage, one of my reviewers, is the epitome of the modern (hence scientific) intellectual—he has a knack of reading everything that seems to matter. He offers the conversation of a true intellectual, shielded from the straitjacket of academic pressures. Ramaswami Ambarish and Lester Siegel showed me (with their suspiciously unnoticed work) that if we are fooled by randomness with respect to plain performance, then performance differential is even harder to pin down. The writer Malcolm Gladwell sent me into some interesting parts of the literature on intuition and self-knowledge. Art De Vany, the insightful and brilliantly colorful economist who specializes in nonlinearities and rare events, started his introductory letter to me with the shibboleth “I despise textbooks.” It is encouraging to see someone with such depth in his thinking who can also have fun in life. The economist William Easterly showed me that randomness contributed to illusionary causes in economic development. He liked the link between being a skeptical empiricist and disliking monopolies on knowledge by institutions like governments and universities. I am grateful to Hollywood agent Jeff Berg, an enthusiastic reader, for his insights on the wild type of uncertainty that prevails in the media business. I have to thank the book for allowing me to have insightful dinner discussions with Jack Schwager, who seems to have thought of some of the problems longer than anybody alive.

  Thank You, Google

  The following people have provided me with help on this text. I was very fortunate to have Andreea Munteanu as an incisive reader and valuable sounding board; she spent hours away from her impressive derivatives job checking the integrity of the references on Google. Amanda Gharghour also helped with the search. I was also lucky to have Gianluca Monaco as the Italian translator; he found mistakes in the text that it would have taken me a century to detect (a cognitive scientist and book-translator-turned-student-of-mathematical-finance, he called up the publisher and appointed himself the translator). My collaborator, the philosopher of science Avital Pilpel, provided me with invaluable help with technical probability discussions. Elie Ayache, another Levantine-tradder-mathematician-physicist-turned-philosopher-of-science-probability-markets (though without the neurobiology), made me spend numerous hours at Borders Books in both the philosophy section and the science section. Flavia Cymbalista, Sole Marittimi (now Riley), Paul Wilmott, Mark Spitznagel, Gur Huberman, Tony Glickman, Winn Martin, Alexander Reisz, Ted Zink, Andrei Pokrovsky, Shep Davis, Guy Riviere, Eric Schoenberg, and Marco Di Martino provided comments on the text. George Martin was, as usual, an invaluable sounding board. The readers Carine Chichereau, Bruce Bellner, and Illias Katsounis, gracefully e-mailed me extensive errata. I thank Cindy, Sarah, and Alexander for support and the reminder that there are other things than probability and uncertainty.

  I also have to thank my second home, the Courant Institute of Mathematical Sciences,
for providing me with the right atmosphere to pursue my interests and teach and coach students while retaining my intellectual independence, particularly Jim Gatheral, who took the habit of heckling me while co-teaching the class. I am indebted to Paloma’s Donald Sussman and Tom Witz for their unusual insights; I am truly impressed by their heroic ability to understand the “black swan.” I also thank the Empirica members (we ban the use of the word employees) for fostering a climate of fierce and ruthless, truly cut-throat intellectual debate in the office. My coworkers make sure that not a single comment on my part can go without some sort of challenge.

  I insist once again that without David Wilson and Myles Thompson this book would have never been initially published. But without Will Murphy, Daniel Menaker, and Ed Klagsbrun, who revived this book, it would have been dead. I thank Janet Wygal for her thoroughness (and patience) and Fleetwood Robbins for his assistance. Given their zeal, I doubt that many mistakes are left; however, those that remain are mine.

  CHAPTER SUMMARIES

  ONE: IF YOU’RE SO RICH, WHY AREN’T YOU SO SMART?

  An illustration of the effect of randomness on social pecking order and jealousy, through two characters of opposite attitudes. On the concealed rare event. How things in modern life may change rather rapidly, except, perhaps, in dentistry.