“No matter how sophisticated our choices, how good we are at dominating the odds, randomness will have the last word,” wrote Nassim Nicholas Taleb
Is the business world inherently chaotic, or is randomness simply a result of human ignorance regarding hidden, complex variables? Is your organisation ordered and predicable, or does the unseen hand of randomness influence success or failure? In physics, in quantum mechanics, particles behaviour is inherently random. Doesn’t the same logic apply in business?
Can one recognise randomness for what it is and actually profit from what may appear a chaotic state of affairs?
Reading Nassim Nicholas Taleb’s provocative thinking in The Black Swan, Fooled by Randomness and Antifragile will shake any Kenyan manager’s worldview, causing one to think again about uncertainty and the chances of accurate prediction.
Title of the book comes from the past belief that all swans where white, where it turns out a rare Black Swan was spotted in Australia.
Black Swan events as defined by Taleb are an outlier, lying outside regular expectations, where nothing in the past can point to it’s possibility – where the event carries an extreme impact.
Strangely enough, as he points out, the Black Swan phenomena is a fact that we tend to ignore, because we don’t even recognise it exists.
Alexander Fleming was a meticulous researcher. However a set of random events, a messy lab, a vacation and a contamination, a series of highly improbable coincidences, led to his 1928 discovery of penicillin, that has saved millions of lives.
Discovery of penicillin is a classic example of a “Black Swan” event in science-an unexpected, rare occurrence with extreme impact, often rationalised in hindsight.
Value what you don’t know
Taleb is a Wharton trained financial economist who makes you think, the kind of paperback where you go back a few pages to make sure one really understood his ideas. Black Swan logic makes what you don’t know, far more relevant than what you do know.
His thesis is that ‘contrary to social science wisdom, almost no discovery, no technologies of note came from design and planning – they were just Black Swans.’
Taleb is brash and pulls no punches when he writes: ‘Go ask your portfolio manager for his definition of risk and the odds are that he will supply you with a measure that excludes the possibility of the Black Swan – hence, one that has no better predictive value for assessing the total risks than astrology .. dressed up intellectual fraud with mathematics.’
Mediocre or extreme
Taleb writes about the land of Mediocristan [type 1 randomness] and Extremistan [type 2 randomness] where Black Swan social phenomena lie.
For instance, if you randomly got 100 people to line up shoulder to shoulder on a street in Nairobi, you would get an excellent [statistically correct] picture of the average height of Kenyans.
Even if you brought in the tallest person in Kenya, who is say more than eight feet tall it would not significantly affect [by less than 1 percent] the average height of the group.
In other words, when your sample is large, no single instance will significantly change the aggregate, the total, or the overall average. In other words, in Mediocristan [a place of physical measures] a single event does not contribute much individually, only collectively.
In the land of Extremistan, filled with mostly social phenomenon where the Black Swan events lie things are totally different.
Take another randomly selected group of 100 hard working Kenyans and compute their average income, now bring in the richest individual in the country. It is not hard to see that the affluent person’s earnings would be many times the income of the total group combined.
‘In Extremistan, inequalities are such that one single observation can disproportionately impact the aggregate or total’ notes Taleb.
Lesson for Kenyan managers is to know how to make the distinction between the two worlds of man-made social events and the physical world [like measuring waistlines].
Stop trying to predict everything and recognise [and hopefully be able to take advantage of] uncertainty. Maybe we can even come to the shocking self-awareness that we not even aware, we [often] don’t learn.
Was that luck or skill?
Taleb’s core thinking is that we massively underestimate randomness. Managers often see patterns where none exist and risk attributing success to skill, when luck played a major role. Then, to explain what we think happened we create neat stories after the fact.
Problem with not seeing randomness in business is that we have an overconfidence in forecasts, celebrate ‘star performers’ without adjusting for luck, and tend to copy approaches that worked once in unique conditions. Truth may be that many business successes are not repeatable formulas, they are a result of partly (or largely) random events.
Risk is that we confuse survival with skill, seeing only the survivors. The startup that made it, fund manager with a winning streak, or the CEO who ‘beat the odds’. What we don’t see, and may choose to ignore is the thousands who used the same approach, and failed.
Taking advantage of randomness
So how does one turn Taleb’s randomness into a competitive advantage? When you accidently drop a fragile china plate on the kitchen floor it shatters. Taleb’s suggestion to profit from randomness is to build in antifragility.
For instance, when you exercise a muscle, it is stressed, yet with time it becomes stronger. Or a manager that went from a bordering on fatal stressful set of events in a failed merger, may come out a broader more informed perspective, developing a sense of Solomon like wisdom.
Taking an antifragile approach may mean avoiding leverage that can wipe you out, diversify revenue streams even if it looks inefficient, and prefer modular systems over tightly linked ones. Better to be slightly inefficient than fatally fragile.
Makes sense to pilot projects instead of big-bang transformations and make small experiments across multiple ideas. Many small failures plus one big success beats one grand ‘big bet’ plan.
Helps to always look for the ‘asymmetric upside’ that has a limited downside, with a big potential gain. Building partnerships across various sectors, is a smart ‘spread the bets’ approach.
Precise but irrelevant
Taleb is known for criticising how some professionals handle risk, including accountants. He argues that accountants often focus on ‘precise but irrelevant numbers’ versus a broader understanding of uncertainty. Risk management is often based on past data that can be fatally flawed.
Taleb thesis is that we massively underestimate the impact of randomness, often confusing skill with luck, an insightful investor with a lucky idiot, and market out performance with a survivorship bias.
And, in ‘always on’ designed to distract social media — do we confuse signal for noise? Last word: randomness always wins.