2.14.2006

RANT: What do you call a trader with a $2 million bonus check?

via SmartMoney - Nassim Taleb would call this guy a lucky fool. Most people who are successful in the markets ignore the critical role that luck plays in their performance, says Taleb, a mathematician and trader... In his book, "Fooled by Randomness: The Hidden Role of Chance in Life and the Markets," Taleb writes of such traders: "They will act as if they deserved the money. Their strings of success will inject them with so much serotonin that they will even fool themselves about their ability to outperform markets." The loosely structured book is full of anecdotes and parables about successful traders who lose it all.

Taleb argues that traders identify as patterns what are actually random events, and see causality where there is none. They're also misled - and undone - by statistics. A professor who computes the average of his students' grades removes the highest and lowest numbers and takes the average of the remaining ones. People in finance, Taleb writes, borrow the same technique to determine, say, the average gain or loss of the S&P 500 index in the month of January and ignore infrequent events. They ignore the fact that a rare event - such as the Sept. 11 attacks - can send the market into a spiral...

It's the market that creates the indicator, not the indicator that creates the market. Sometimes you have a stock go up and people don't know why. We are very good at inventing reasons for things. I call it a back-fit explanation to things. A lot of these indicators are artificial indicators... When I was a trader [on Wall Street], people thought the most important number was money supply. Then it was the trade deficit number. These indicators are coming and going. It satisfies people's desire for explanation... The explanation is thought to be a determinant. I'm not skeptical of indicators, but of how people use indicators. Something has to be moving the market. The problem is that we're humans, we invent things, and convince ourselves of some economic explanation as to why it moved...

Information is bad for us is because of overcausation. You like the word "because." You want to know why. When you read a report you always have "because" attached to it. Your brain cannot ingest information unless you stick "because" in it; people won't pay attention otherwise. That's why journalists use it. When you read The Wall Street Journal or The New York Times, they say the market went up on whatever reason. Oil prices went down, so the market went up. People like that because it gives them some form of story, you see a link between these two events. The thing is, it may work that way, it may not.

Often they give the same reason for two different things happening. Interest rates are up because of Saddam being captured, or interest rates are down because of Saddam being captured. Here you have overcausation. You need a diamond to cut a diamond. I'm using a story [in the book] to tell you why stories are bad for you... If I'm going to get a story, I'd rather get it from Proust than from Bloomberg. Journalists are delivering to us what we want from them. People wouldn't pay a dollar for the New York Times if they printed statistics. I'm calling on journalists to use their own methods to displace the misrepresentation we have of the world...

I believe there's a careful investor, and a wise investor. This is someone who accumulates options in whatever life gives them and gets an edge... To become Bill Gates you need more luck than skill. But to become a prosperous person, you need more skill than luck. Being thoughtful, second guessing yourself, being a little paranoid will make you prosperous. Stellar success is the result of a lot of these qualities plus luck. You need a healthy dose of hard work with an immense amount of skepticism, and you will be a good investor.

Some people who came to me who are successful say to me, you made me introspect and think I just could have been very lucky. I say, if you know that, if you're questioning yourself, odds are you have skills. I believe Warren Buffett has skills, but probably two-thirds of it comes from an environment that helped him...

I'm a stoic in the sense that you have to train yourself to derive enjoyment in random environments. In the market, it's easy to have skills, but do poorly. You have bad luck. You could be mistreated in a random environment. A lot in your environment you can't control; you'd feel a lot better if you were to focus not on what events are brought to you, but how you deal with them.

Category: C++ Quant > Fix the Job You Got > Something vs Nothing

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