Friday, May 29, 2015

Antifragile, A Magical Introduction Part 1

This got so long I had to break it into parts...

Back to Taleb. As we touched on before, there are several ways that a system can respond to a negative risk or shock:
  • It can be detrimentally impacted (Fragile)
  • It can be stable (Robust)
  • It can improve (Antifragile)
We are used to thinking about fragility and robustness. They are two sides to the same coin. A fragile system is one that's overly sensitive to change or shocks that a robust one can weather. Avoiding fragility in human systems is the first step to coping with change.

 Hallmarks of fragility include:
  • Complexity (overly complex systems have more break points)
  • Inertia (things which are difficult to adjust can't cope with change)
  • Excess efficiency (lack of redundancy marked by 'just in time' thinking and hyper efficiency_
  • Neomania (the older an idea, process, or substance it, the less fragile it is -- because these things have been tested over time, very new things tend to be untested yet are often preferred)
On the other side we have robustness, which should not be confused with stability. Stable things often seem robust, but are actually fragile past a certain point. Buildings are a perfect example, stable structures are certainly less prone to collapse than fragile ones... to a point. But we've learned the hard way that they are not at all robust toward stressors like high wind or earthquake. Modern buildings are actually quite flexible. They wave gently in high winds and have shock-absorbers to handle the shaking of the earth. I used to work on the 32 floor of a downtown skyscraper and when the winds were high enough you could feel the building oscillate gently.

Robust, but not completely stable
Look at two examples, a renter and a homeowner. Under normal conditions, the homeowner's situation is more stable (at least in terms of housing). They are less impacted by changes in housing prices (if they aren't planning on selling that is). Their monthly obligation never changes (unless they were foolish enough to take on a variable rate mortgage). They can't be forced to move. They have much greater control over their day to day living conditions (they can remodel, paint, or upgrade). They have much more ability to create sustainable systems (solar, garden, chickens, etc.).

However, under more extreme stressors, the renter has much greater flexibility, which can ensure robustness in the face of change. They can change location more easily to: find work, access a better school, pay lower rent, avoid unsavory political or social changes, etc. They are much more robust to natural disasters (a homeowner can lose everything -- financially speaking -- while the renter only loses their place to live). Their insurance costs are much lower. They don't have to pay for repairs.

My goal isn't to argue that one path is better than the other -- it's an individual calculation. It's to argue that with greater stability comes less flexibility, which can mean less robustness. 

However, there's a third category that we aren't as used to thinking of -- antifragile. Antifragile things don't just weather stress or change, they get better because of the stress. If you haven't read the book, go at least read the prologue online. It's an excellent summary:

Wind extinguishes a candle and energizes fire. Likewise with randomness, uncertainty, chaos: you want to use them, not hide from them. You want to be the fire and wish for the wind.

Some things benefit from shocks; they thrive and grow when exposed to volatility, randomness, disorder, and stressors and love adventure, risk, and uncertainty. 

It is far easier to figure out if something is fragile than to predict the occurrence of an event that may harm it. Fragility can be measured; risk is not measurable...

Crucially, if antifragility is the property of all those natural (and complex) systems that have survived, depriving these systems of volatility, randomness, and stressors will harm them.

If about everything top-down fragilizes and blocks antifragility and growth, everything bottom-up thrives under the right amount of stress and disorder. 

Some become antifragile at the expense of others by getting the upside (or gains) from volatility, variations, and disorder and exposing others to the downside risks of losses or harm... The chief ethical rule is the following: Thou shalt not have antifragility at the expense of the fragility of others.

You get pseudo-order when you seek order; you only get a measure of order and control when you embrace randomness. 

-- Antifragile, Prologue

Think back to my posts on risk mitigation. You'll notice that while I suggest looking at things that could go wrong in your life, I don't recommend trying to predict how likely they are to happen. Instead the goal is to prioritize based on how unprotected you are to them. I used to live in a wildfire area, so fire danger was obviously higher risk than it otherwise might have been. But every year people who live nowhere near a wildfire area lose their homes to Christmas tree fires. The risk of fire led me to think of the fragility of our house against fire. But the fragility was there with or without the risk. Even if you can't predict a risk, you can judge your fragility.

These candle holders are really hard to find here in the US

Obviously, I believe there's value in thinking objectively about the bad things that could happen. First, because we tend to avoid it. Second, because it's a way of pinpointing fragility in our current systems -- the process of pondering what risks you're worried about helps you understand where your current weaknesses are. Finally because I think that magic gives us some tools that other people don't use and we need every insight we can get.

The other reason that I haven't abandoned risk assessment is because of a bit of a logical fallacy in Taleb's thinking around Black Swans. Taleb's point is that Black Swans are unpredictable. However he also makes the point that it's only a Black Swan if you are the Turkey and not the Farmer. That implies that some people see things coming that others don't. Maybe that's not prediction in his mind. But in terms of seeing what's coming, the more information you have the better. For example, I know someone who teaches for an online university. If I were her, I'd be looking for a new line of work.

So if you have a sense of what bad things can happen, you have a sense of where your system is fragile. The actual work is in making your system less fragile, which brings us to the holy grail, antifragility.

The human body is an excellent example of an antifragile system. We evolved to deal with variety, change, stress, and shock. Our systems do better under these conditions. Occasional stress followed by rest, good. Chronic stress, a killer. This is why occasional fasting and having a widely varied diet are very good for you. Breaking a bone makes it grow back stronger. But remember the catch (there's always a catch). Systems that are designed to thrive on uncertainty, actually require a certain amount of uncertainty in order to remain healthy. They can actually be harmed by too much stability. This is completely true of the human body.

Not that I recommend breaking bones. But a regular, unvaried food supply has resulted in obesity and ill health. And no exercise and constant unvaried exercise are both bad for human systems (no exercise is worse, but they are both bad). Our bodies need variety.

There's another element of antifragility that's important. The system has primacy over the individual parts. Take a city with a strong food culture: lots of restaurants, food festivals, carts, and delivery services. In this environment, there's lots of competition and lots of turnover. It's food Darwinism in action. Individual restaurants fail at a rapid rate. The poor restaurants die off and the remaining ones are strengthened. The best people congregate at the top locations. And the system attracts good people from the outside. Expectations of the populace are high. At the city level, the culinary environment is antifragile. But individual restaurants within this environment can be quite fragile.

The opposite would be a small town with a single, non-chain restaurant. This place will be in business forever. It will be the place to go for every occasion that requires better fare than McDonald's. Unless they get shut down by the health department (and even then it may not kill them) they will always be there and will have no incentive to get better. That restaurant is very, very robust. However the food culture of the town is not very strong or exciting. Good people tend to leave and people's expectations aren't very high (if you don't die of food poisoning, that's a good meal).  I grew up in such a town.

You might say that the foodie city is agile as compared to the small town.

This applies equally to your personal systems. For example, you might try a number of different things to make your home more sustainable (gardening, using grey water, collecting rainwater, solar power, installing a generator for emergencies, preserving food, raising chickens, joining a borrowing coop). Some of these things may work and some will be failures. The key is that you keep your investment low (time, money, energy) and when you fail, stop and learn from those failures. So while your efforts to brew beer might end up a spectacular failure, your household learns from that mistake and becomes more antifragile overall.

Hallmarks of antifragility include:
  • Organic (as opposed to mechanized)
  • Local, small-scale (this particularly applies to economic systems)
  • Redundant (not too efficient and optimized)
  • Agile (able to respond to change rapidly)
  • Tested by time (the longer something is around, the less fragile it is)
  • Extreme (but at both extremes at the same time -- barbell)
Antifragile systems have high ability to take advantage of opportunities and are open to options. While parts of the system are fragile (fail fast and often) the larger system is strengthened by the failures.

Above all, antifragile systems are exposed to positive risk (upside) but aren't negatively impacted by the downside.

This is the barbell model. The idea here is that you avoid the middle and focus instead on the extremes of any situation. From Taleb:

Barbell Strategy: A dual strategy, a combination of two extremes, one safe and one speculative, deemed more robust than a “monomodal” strategy; often a necessary condition for antifrigility. ... trial and error are a form of barbell.

For example, the barbell investing strategy: you put 90% of your money in something very safe and boring (like a money market fund) and you put 10% in something massively risky (like angel investing, microcap stocks, currency speculation, undiscovered artists' work) where the risk is greater, but you could make a huge return. This system is antifragile because a) on the upside most of your money is protected and you have the small chance of making a ton of profit and b) on the downside you can't lose more than 10% no matter what happens. The individual parts are extreme and not antifragile (the safe investment is stable, the risky one fragile) -- mixed in the right proportions, you get antifragile outcomes.

Note, putting all your money in an index fund is the opposite of this. You will never be exposed to a huge upside, but can still experience a major downside (as anyone who had investments through 2008 well knows). Not to mention that you'll lose money at exactly the same time as everyone else and make money the same time as everyone else. So your leverage is reduced. It's like the worst of all worlds. I often wish I had a bunch of cash in '08. Stocks of every kind were hugely 'on sale'. Unfortunately what money I had already invested was lost while what cash we had was needed to get us through six months of unemployment in the shitty, shitty economy that followed. Not antifragile.

Now the barbell investing strategy has gotten very popular recently, which means there's a lot of advice about it that seems to completely miss the point.

For example, I keep hearing about a barbell bond strategy where you invest half of your money in short term bonds and half in long terms bonds. This might or might not be a good thing to do, but it has nothing to do with what Taleb is suggesting. First of all, buying two types of the same thing isn't the kind of hyper diversification that suggest an antifragile strategy. You have a bond portfolio that has different bonds in it. Second, most bonds tend to be equally risky. The difference is opportunity cost. A longer term bond pays more because you can't access the money for longer. A short term bond pays less. So you aren't leveraging risk here in any way. You know how much the long term bond will pay and there's zero chance that it will suddenly shoot up in value the way a startup or a painting can. You are simply sacrificing opportunity for a small return, which sounds like a middle of the road strategy. Finally, even if the choices were better, half and half is not the original balance. If there's really a risk of loss then only a small portion of your money should be exposed to that.

Another thing I've heard is that you gamble with your 10%. This too is not what Taleb is suggesting. Sure, there's a small chance of a big payoff, but it's also not, you know, an investment. If I buy a painting by an up and coming artist, there's a small chance that the artists will become famous and my painting will shoot up in value. There's an equally small chance that the painting will be worth less than I sold it for or even nothing. But until then, I have the painting (which I get to enjoy in my house). If I invest in a startup, I may lose my entire investment it the startup goes under, but more likely it will just not make any profit. There's also a small chance that Google decides to buy the 'never made any money but boy the kids love it' startup for billions and I'm set for life. In the mean time, I get to sit on a board and help direct a business and have a say in strategy, which is pretty cool. On the other hand, if I take 10% of my money and buy lottery tickets, next week I won't still have the lottery tickets. My chance of winning big drops to 0 after the drawing and my chance of complete loss becomes 100%. So next week I buy another 10%? That sounds like the road to ruin.

You may not be interested in the barbell strategy for investing, but I think these fallacious arguments can help clarify our thinking about barbell strategies in other areas as well. So you eat a basic healthy diet? Great, but if you aren't varying your diet in a major way, you're not getting the most benefit (though, for the record, you're getting more benefit than on the ramen and ice cream diet). A more antifragile option is to pick one day a week to fast until dinner, have one day where you can eat anything you want, and try new foods and cuisines regularly.

If you don't want to read Taleb's books (but you do, right?), then I'd recommend this excellent and very thorough overview of the topic. It has a long list of barbell examples from Taleb's books (which saved me having to look them up and type them in).

Above all, antifragile is an attitude toward shocks. Instead of fearing and avoiding them, you expect them and try to keep them from being devastating.

Next up, I'll be talking about the antifragile mindset, antifragility for magic, and the barball divination.



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