Pat Dorsey’s book is one of the most important text that you can read to untangle the puzzle of moat and competitive advantages.
This is the continuation of our book review which we started in the special report last month. I hope the first part of this review piqued enough interest in you to start reading the book.
This is an extremely rich book, insight-wise, and it took me many weeks to absorb the content.
One of the key distinction that one needs to understand is that organic entities are intrinsically antifragile, while artificial creations are at best robust and likely fragile. Most of the man made things especially mechanical ones are subject to wear and tear and horribly fragile in long term. However, some of the intangible creations of man like ideas, technologies, and businesses exhibit antifragility.
For that matter, if you can find an antifragile business you would be done for life! Let me know if you stumble upon such business model, except of course Berkshire Hathaway 🙂
Come to think of it, the stock markets do exhibit the characteristics of antifragility. In markets, paradoxically, there is no long-term stability without short-term volatility.
Detecting the Fragility
How do you know if you’re dealing with a fragile system? Fragile systems experience increasingly bigger harms as the size of the stress increases. To describe the idea in Taleb’s words –
The difference between a thousand pebbles and a large stone of equivalent weight is a potent illustration of how fragility stems from non-linear effects…so if you double the dose, you get lot more or a lot less than double the effect – if I throw at someone’s head a ten-pound stone, it will cause more than twice the harm of a five-pound stone, it will cause more than twice the harm of a five-pound stone, more than five times the harm of a one-pound stone, etc…Jumping from a height of thirty feet brings more than ten times the harm of jumping from a height of three feet.
This nonlinear characteristic of fragility is also referred as negative convexity. Antifragile systems are opposite, i.e. they exhibit positive convexity. In a linear system, you have to be right 50 percent of the times to be average however it’s not so in case of non-linear payoffs.
The hidden benefit of antifragility is that you can guess worse than random and still end up outperforming…this explains my statement that you can be dumb and antifragile and still do very well.
That’s why you don’t need to pick hundreds of great stocks in your investing life to do well. All you need is few good ideas and they can take care of everything. Taleb summarizes –
If you have favorable asymmetries, or positive convexity, options being a special case, then in the long run you will do reasonably well, outperforming the average in the presence of uncertainty.
Now that we have fairly good understanding of fragility continuum, we need to identify the things which can mess with antifragility. One such enemy of antifragile systems is …
In the modern world, with the help of technology and new discoveries, the tendency to immediately cure or correct a problem is rampant among professionals including doctors. This urge to help is called naive interventionism. In psychology this tendency has been recognized as ‘do something bias’ which we discussed in March issue of VIA and also in Latticework series. A lot of ailments in human body don’t really need any external intervention. Mother nature has its own reasons and ways to cure such conditions. Irony is that just because medical science has the cure they treat it causing harm in long term.
In the case of tonsillectomies, the harm to the children undergoing unnecessary treatment is coupled with the trumpeted gain for some others. The name for such net loss, the (usually hidden or delayed) damage from treatment in excess of the benefits, is iatrogenics, literally, ‘caused by the healer,’ …Medical error still currently kills between three times (as accepted by doctors) and ten times as many people as car accidents in the United States.
Iatrogenics is compounded by the agency problem [incentive caused bias]..agency problem, for instance, is present with the stockbroker and medical doctor, whose ultimate interest is their own checking account not your financial and medical health, respectively, and who give you advice that is geared to benefit themselves.
The idea of naive intervention closely relates to ‘do something bias’ which we discussed in the March issue of VIA. It should be kept in mind that intervention in itself is not bad. While dealing with complex adaptive systems (human body, economy, markets) especially the ones which are unpredictable, intervening can result in unintended consequences.
Theory Vs Practice
Epistemology, the inquiry into the nature of knowledge, is a central concern for Taleb. There are numerous examples of discoveries which didn’t come out as a result of systematic research. And many which did seem like coming out of formal research and developments efforts were back fitted – a classic mistake dubbed as narrative fallacy.
In a world governed by uncertainty and unpredictability, theoretical knowledge is of limited use. Real, usable knowledge, according to Taleb, emerges from doing, not studying.
“We all learn geometry from textbooks based on axioms…and tend to think that it is thanks to such learning that we today have these beautiful geometric shapes in buildings, from houses to cathedrals; to think the opposite would be anathema. So I speculated immediately that the ancients developed an interest in Euclid’s geometry and other mathematics because they were already using these methods, derived by tinkering and experiential knowledge, otherwise they would not have bothered at all.
We have not digested the fact that cures for cancer had been coming from other branches of research. You search for noncancer drugs (or noncancer nondrugs) and find something you were not looking for (and vice versa), But the interesting constant is that when a rsult is initially discovered by an academic researcher, he is likely to disregard the consequences because it is not what he wanted to find – an academic has a script to follow.”
The real wisdom, erudition in Taleb’s words, is achieved by tinkering (trial and error) on your own. I completely agree with Taleb on this point when he says –
“School [formal education] is designed to deprive people of erudition by squeezing their knowledge into a narrow set of authors…what I was given to study in school I have forgotten; what I decided to read on my own, I still remember.”
In fact you can tell a lot about a person by the kind of advice he or she dispenses.
Charlatan, according to Taleb, are recognizable in that they give you positive advice, and only positive advice…yet in practice it is the negative that’s used by the pros, those selected by evolution: chess grandmasters usually win by not losing; people become rich by not going bust (particularly when others do). The learning of life is about what to avoid. You reduce most of your personal risks of accident thanks to a small number of measures.
The greatest and most robust contribution to knowledge, says Taleb,
consists in removing what we think is wrong..negative knowledge (what is wrong, what does not work) is more robust to error than positive knowledge (what is right, what works)..disconfirmation is more rigorous than confirmation…via negativa is part of the classical wisdom…keeping one’s distance from an ignorant person is equivalent to keeping company with a wise man.
The idea of ‘less is more’ is another application of Via Negativa. Less is essentially a corollary of Occam’s Razor which we discussed in Latticework series few weeks back. Taleb notes –
There may not be an easily identifiable cause for a large share of the problems, but often there is an easy solution (not all problems, but good enough I mean really good enough), and such a solution is immediately identifiable, sometimes with the naked eye rather than the use of complicated analyses and highly fragile, error-prone, cause-ferreting nerdiness.
Skin In The Game
In the contemporary world marred with complex rules, policies, regulations, and laws it’s extremely difficult to track down the causality (because of delay and invisibility) of interventions made by policy makers, bankers, politicians, and corporate executives. So the only solution to mitigate the fragility is ‘skin in the game’ – a metaphor for ethical conduct.
Because of incentive bias these interventionists side with unethical behaviour, still legal because of the complexity, and transfer the fragility from one party to the other, with one getting the benefits, the other one getting the harm.For example, the people responsible for the financial meltdown in 2008 got away with multi million dollar commissions but it was the taxpayer who bore the brunt of bailout packages. These people had no skin in the game. They didn’t face the downside and got all the upside. They were benefitted by transferring the fragility to the common man.
The solution is found in 3800 years old Hammurabi’s code which says –
If a builder builds a house and the house collapses and causes the death of the owner of the house – the builder shall be put to death.
With this logic, every professional who forecasts or makes an economic analysis needs to have something to lose from it, given that others rely on those forecasts.
I would like to reiterate that the ideas that I have picked up for this bookworm are just a small sample from the book. For more such thought provoking gems, there is no other way but to read the book cover to cover.
I enjoyed reading this so much that I recommend it to everybody. I wish a day would come when I’ll buy hundreds of copies and distribute to everybody I know. But for today all I hope is that you order your own copy and read it.