

Betting on Black Swans - immad
http://www.immadsnewworld.com/2012/12/betting-on-black-swans.html

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jpdus
The article misses the definition of "Black Swan" - you CANT bet on Black Swan
events or farm Black Swans. If you could, it werent a Black Swan.

"The disproportionate role of high-profile, hard-to-predict, and rare events
that are beyond the realm of normal expectations in history, science, finance,
and technology"[1]

[1] <http://en.wikipedia.org/wiki/Black_swan_theory>

~~~
klenwell
Malcolm Gladwell outlined the Black Swan strategy Taleb used at Empirica in
this New Yorker article from way back in 2002:

<http://www.gladwell.com/2002/2002_04_29_a_blowingup.htm>

Here's the part that resonated with me:

 __"We cannot blow up, we can only bleed to death," Taleb says, and bleeding
to death, absorbing the pain of steady losses, is precisely what human beings
are hardwired to avoid. "Say you've got a guy who is long on Russian bonds,"
Savery says. "He's making money every day. One day, lightning strikes and he
loses five times what he made. Still, on three hundred and sixty-four out of
three hundred and sixty-five days he was very happily making money. It's much
harder to be the other guy, the guy losing money three hundred and sixty-four
days out of three hundred and sixty-five, because you start questioning
yourself. Am I ever going to make it back? Am I really right? What if it takes
ten years? Will I even be sane ten years from now?" What the normal trader
gets from his daily winnings is feedback, the pleasing illusion of progress.
__

[Hmmm. Can't get italics to work on the quotation.]

~~~
aristus
Ten years on Empirica is closed, and its record of returns is interestingly
vague, given all the media attention at the onset. Universa Investments L.P.
sprung up from the ashes in 2007. Again, the record of return is "secret",
except for careful leaks in the press when things happen to pay off. But wait,
there's more! They have a brand-new "Black Swan ETF" that hedges the S&P 500
and charges you 0.95% for the privilege.

It looks a whole lot like the usual hedge fund bullshit play to me. Make lots
of noise for a few years, get the punters to play, close down, then open up
under a new name. Lather, rinse, repeat.

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akkartik
I don't think he understands what a black swan means. You can't 'shoot for' a
black swan because it's by definition unknowable. A specific 'sale or product
idea' isn't a black swan. Meeting the perfect cofounder is arguably one; it's
as likely to happen at a rave as at a tech meetup. An even better example is
the side project that you _never expected_ to turn into a startup.

 _"Although Black Swans are risky by their nature you can put yourself in a
position where you maximize the chance of success. For example; You want to
have the best team to maximize the chance of success."_

There's something wrong with this paragraph; I don't see an example.

~~~
murbard2
The basic idea behind "the black swan" is that given a limited sample it's
foolish to try and estimate the probability of tail events, and thus in
particular the expected value of convex functions.

Say for instance you have a random variable which follows the following
mixture: draw from a standard normal 99.99% of the time and from a standard
normal 10 standards deviations away 0.01% of the time.

If you collect 1,000 sample, 90% of the time you won't see a single instance
where the value was drawn from the second mode. You plot your data and find
that it perfectly fits a normal distribution. Neat!

I then ask you, what the probability to get an event >10 standard deviation
away. You punch in the numbers and come up with 1.31e-23. The real answer was
about 1/20000. You're wrong by about 19 orders of magnitude.

Moral of the story: if your model spits a probability much lower than the
inverse of the sample size, don't trust it.

Many financial instrument, like options, display convexity. This places
greater emphasis on the tails of the distribution than on the center. If the
option seller underestimates tail risk, it would be profitable on average to
buy such options.

There are many reasons why they might underestimate tail risk. They could
ignore the theoretical argument I've exposed above. It could be that in a
marketplace, sellers who ignore tail risk can stay in business long enough to
put those who don't out of business.

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gwern
VC is by definition not investing in black swans, since there is a long
history of exits and failures to the point that PG & co can make claims like
'1 company invested in per YC will pay for all the rest'.

VC is merely extremely risky but so far positive expected value.

~~~
lylemckeany
I'm not sure if you're entirely correct here. True, VC has had a long history
of exits and failures. However, PG & co have generally had a better history of
Black Swan-type events in their portfolio (e.g. Dropbox).

Taleb's Black Swan theory and approach to hedge fund management is similar to
VC.

From his Wikipedia entry: "As a trader, his strategy has been to safeguard
investors against crises while reaping rewards from rare events, and thus his
trading career has included several jackpots followed by lengthy dry spells."

His fund steadily and intentionally loses money or breaks even on a normal
day, but vastly outperforms other funds on days when the market swings wildly
in either direction. The strategy is not for the faint of heart.

~~~
gwern
> I'm not sure if you're entirely correct here. True, VC has had a long
> history of exits and failures. However, PG & co have generally had a better
> history of Black Swan-type events in their portfolio (e.g. Dropbox).

I don't see how Dropbox is a black swan. 'Wow, another Internet company went
to billion-dollar valuation? _Who could possibly have seen that coming?_ '
Pretty much anyone who has been breathing since the Netscape IPO...

> From his Wikipedia entry: "As a trader, his strategy has been to safeguard
> investors against crises while reaping rewards from rare events, and thus
> his trading career has included several jackpots followed by lengthy dry
> spells."

Yes, that's his strategy for exploiting convexity, but Taleb is the one
insisting on 'Black Swan' as a term for the unpredictable and unpredicted, not
me. I am merely pointing out that by Taleb's lights - the inventor of the term
- VC is not a black swan.

> His fund steadily and intentionally loses money or breaks even on a normal
> day, but vastly outperforms other funds on days when the market swings
> wildly in either direction. The strategy is not for the faint of heart.

They also failed, BTW. Even in 2001 his Empirica fund turned in a crappy
performance; and personally, if you set up a fund to exploit sudden market
shocks and you can't profit handsomely off _9/11_ , you have failed and
partially discredited your overall thesis.

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RiffMcGriff
This reads like a badly-explained piece of Taleb's most recent book
"Antifragility". Taleb specifically mentions most of the points mentioned,
"the focus on teams" and "learning from past mistakes". Granted, these are
obviously a huge part of startups in general, but if you pretend that you knew
what a Black Swan was before Taleb popularized the term in 2001, you're a
philosophy of science PhD or a liar. The fact that our young blogger gives
absolutely NO credit to Taleb's book is disingenuous at best.

~~~
loganfrederick
Most people who write about Black Swans nowadays would acknowledge the phrase
comes from the book "The Black Swan". It's not disingenuous to not mention
Taleb in every piece of writing which uses the phrase "Black Swan" precisely
because Taleb is famous for creating/popularizing the phrase.

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stfu
_Attempt to achieve many Black Swans in parallel so that the overall
probability of hitting one is higher_

This can be misunderstood. One of the most valuable lessons I learned in life
so far, is keeping focus. At least I am unable to do more than a few things
with full force. And a half baked attitude will be counter productive towards
reaching black swan moments.

