Possible Worlds
Note that these ideas of alternative histories have been covered by separate disciplines in intellectual history, worth presenting quickly because they all seem to converge on the same concept of risk and uncertainty (certainty is something that is likely to take place across the highest number of different alternative histories; uncertainty concerns events that should take place in the lowest number of them).
In philosophy, there has been considerable work on the subject starting with Leibniz’ idea of possible worlds. For Leibniz, God’s mind included an infinity of possible worlds, of which he selected just one. These nonselected worlds are worlds of possibilities, and the one in which I am breathing and writing these lines is just one of them that happened to have been executed. Philosophers also have a branch of logic that specializes in the matter: whether some property holds across all possible worlds or if it holds across a single world—with ramifications into the philosophy of language called possible worlds semantics with such authors as Saul Kripke.
In physics, there is the many-world interpretation in quantum mechanics (associated with the works of Hugh Everett in 1957) which considers that the universe branches out treelike at each juncture; what we are living now is only one of these many worlds. Taken at a more extreme level, whenever numerous viable possibilities exist, the world splits into many worlds, one world for each different possibility—causing the proliferation of parallel universes. I am an essayist-trader in one of the parallel universes, plain dust in another.
Finally, in economics: Economists studied (perhaps unwittingly) some of the Leibnizian ideas with the possible “states of nature” pioneered by Kenneth Arrow and Gerard Debreu. This analytical approach to the study of economic uncertainty is called the “state space” method—it happens to be the cornerstone of neoclassical economic theory and mathematical finance. A simplified version is called “scenario analysis,” the series of “what-ifs” used in, say, the forecasting of sales for a fertilizer plant under different world conditions and demands for the (smelly) product.
An Even More Vicious Roulette
Reality is far more vicious than Russian roulette. First, it delivers the fatal bullet rather infrequently, like a revolver that would have hundreds, even thousands, of chambers instead of six. After a few dozen tries, one forgets about the existence of a bullet, under a numbing false sense of security. The point is dubbed in this book the black swan problem, which we cover in Chapter 7, as it is linked to the problem of induction, a problem that has kept a few thinkers awake at night. It is also related to a problem called denigration of history, as gamblers, investors, and decision-makers feel that the sorts of things that happen to others would not necessarily happen to them.
Second, unlike a well-defined, precise game like Russian roulette, where the risks are visible to anyone capable of multiplying and dividing by six, one does not observe the barrel of reality. Very rarely is the generator visible to the naked eye. One is thus capable of unwittingly playing Russian roulette—and calling it by some alternative “low risk” name. We see the wealth being generated, never the processor, a matter that makes people lose sight of their risks, and never consider the losers. The game seems terribly easy and we play along carelessly. Even scientists with all their sophistication in calculating probabilities cannot deliver any meaningful answer about the odds, since knowledge of these depends on our witnessing the barrel of reality—of which we generally know nothing.
Finally, there is an ingratitude factor in warning people about something abstract (by definition anything that did not happen is abstract). Say you engage in a business of protecting investors from rare events by constructing packages that shield them from their sting (something I have done on occasion). Say that nothing happens during the period. Some investors will complain about your spending their money; some will even try to make you feel sorry: “You wasted my money on insurance last year; the factory did not burn, it was a stupid expense. You should only insure for events that happen.” One investor came to see me fully expecting me to be apologetic (it did not work). But the world is not that homogeneous: There are some (though very few) who will call you to express their gratitude and thank you for having protected them from the events that did not take place.
SMOOTH PEER RELATIONS
The degree of resistance to randomness in one’s life is an abstract idea, part of its logic counterintuitive, and, to confuse matters, its realizations nonobservable. But I have been increasingly devoted to it—for a collection of personal reasons I will leave for later. Clearly my way of judging matters is probabilistic in nature; it relies on the notion of what could have probably happened, and requires a certain mental attitude with respect to one’s observations. I do not recommend engaging an accountant in a discussion about such probabilistic considerations. For an accountant a number is a number. If he were interested in probability he would have gotten involved in more introspective professions—and would be inclined to make a costly mistake on your tax return.
While we do not see the roulette barrel of reality, some people give it a try; it takes a special mindset to do so. Having seen hundreds of people enter and exit my profession (characterized by extreme dependence on randomness), I have to say that those who have had a modicum of scientific training tend to go the extra mile. For many, such thinking is second nature. This might not necessarily come from their scientific training per se (beware of causality), but possibly from the fact that people who have decided at some point in their lives to devote themselves to scientific research tend to have an ingrained intellectual curiosity and a natural tendency for such introspection. Particularly thoughtful are those who had to abandon scientific studies because of their inability to keep focused on a narrowly defined problem (or, in Nero’s case, the minute arcane details and petty arguments). Without excessive intellectual curiosity it is almost impossible to complete a Ph.D. thesis these days; but without a desire to narrowly specialize, it is impossible to make a scientific career. (There is a distinction, however, between the mind of a pure mathematician thriving on abstraction and that of a scientist consumed by curiosity. A mathematician is absorbed in what goes into his head while a scientist searches into what is outside of himself.) However, some people’s concern for randomness can be excessive; I have even seen people trained in some fields, like, say, quantum mechanics, push the idea to the other extreme, only seeing alternative histories (in the many-world interpretation) and ignoring the one that actually took place.
Some traders can be unexpectedly introspective about randomness. Not long ago I had dinner at the bar of a Tribeca restaurant with Lauren Rose, a trader who was reading an early draft of this book. We flipped a coin to see who was going to pay for the meal. I lost and paid. He was about to thank me when he abruptly stopped and said that he paid for half of it probabilistically.
I thus view people distributed across two polar categories: On one extreme, those who never accept the notion of randomness; on the other, those who are tortured by it. When I started on Wall Street in the 1980s, trading rooms were populated with people with a “business orientation,” that is, generally devoid of any introspection, flat as a pancake, and likely to be fooled by randomness. Their failure rate was extremely high, particularly when financial instruments gained in complexity. Somehow, tricky products, like exotic options, were introduced and carried counterintuitive payoffs that were too difficult for someone of such culture to handle. They dropped like flies; I do not think that many of the hundreds of MBAs of my generation I met on Wall Street in the 1980s still engage in such forms of professional and disciplined risk taking.
Salvation via Aeroflot
The 1990s witnessed the arrival of people of richer and more interesting backgrounds, which made the trading rooms far more entertaining. I was saved from the conversation of MBAs. Many scientists, some of them extremely successful in their field, arrived with a desire to make a buck. They, in turn, hired people who resembled them. W
hile most of these people were not Ph.D.s (indeed, the Ph.D. is still a minority), the culture and values suddenly changed, becoming more tolerant of intellectual depth. It caused an increase in the already high demand for scientists on Wall Street, owing to the rapid development of financial instruments. The dominant specialty was physics, but one could find all manner of quantitative backgrounds among them. Russian, French, Chinese, and Indian accents (by order) began dominating in both New York and London. It was said that every plane from Moscow had at least its back row full of Russian mathematical physicists en route to Wall Street (they lacked the street smarts to get good seats). One could hire very cheap labor by going to JFK airport with a (mandatory) translator, randomly interviewing those who fit the stereotype. Indeed, by the late 1990s one could get someone trained by a world-class scientist for almost half the price of an MBA. As they say, marketing is everything; these guys do not know how to sell themselves.
I had a strong bias in favor of Russian scientists; many can be put to active use as chess coaches (I also got a piano teacher out of the process). In addition, they are extremely helpful in the interview process. When MBAs apply for trading positions, they frequently boast “advanced” chess skills on their résumés. I recall the MBA career counselor at Wharton recommending our advertising chess skills “because it sounds intelligent and strategic.” MBAs, typically, can interpret their superficial knowledge of the rules of the game into “expertise.” We used to verify the accuracy of claims of chess expertise (and the character of the applicant) by pulling a chess set out of a drawer and telling the student, now turning pale: “Yuri will have a word with you.”
The failure rate of these scientists, though, was better, but only slightly so than that of MBAs; but it came from another reason, linked to their being on average (but only on average) devoid of the smallest bit of practical intelligence. Some successful scientists had the judgment (and social graces) of a doorknob—but by no means all of them. Many people were capable of the most complex calculations with utmost rigor when it came to equations, but were totally incapable of solving a problem with the smallest connection to reality; it was as if they understood the letter but not the spirit of the math (we will see more on such dual thinking with the two systems of reasoning problem in Chapter 11). I am convinced that X, a likeable Russian man of my acquaintance, has two brains: one for math and another, considerably inferior one, for everything else (which included solving problems related to the mathematics of finance). But on occasion a fast-thinking scientific-minded person with street smarts would emerge. Whatever the benefits of such population shift, it improved our chess skills and provided us with quality conversation during lunchtime—it extended the lunch hour considerably. Consider that I had in the 1980s to chat with colleagues who had an MBA or tax accounting background and were capable of the heroic feat of discussing FASB standards. I have to say that their interests were not too contagious. The interesting thing about these physicists did not lie in their ability to discuss fluid dynamics; it is that they were naturally interested in a variety of intellectual subjects and provided pleasant conversation.
Solon Visits Regine’s Nightclub
As the reader may already suspect, my opinions about randomness have not earned me the smoothest of relations with some of my peers during my Wall Street career (many of whom the reader can see indirectly—but only indirectly—portrayed in these chapters). But where I had uneven relations was with some of those who had the misfortune of being my bosses. For I had two bosses in my life of contrasting characteristics in about every trait.
The first, whom I will call Kenny, was the epitome of the suburban family man. He would be of the type to coach soccer on Saturday morning, and invite his brother-in-law for a Sunday afternoon barbecue. He gave the appearance of someone I would trust with my savings—indeed he rose quite rapidly in the institution in spite of his lack of technical competence in financial derivatives (his firm’s claim to fame). But he was too much a no-nonsense person to make out my logic. He once blamed me for not being impressed with the successes of some of his traders who did well during the bull market for European bonds of 1993, whom I openly considered nothing better than random gunslingers. I tried presenting him with the notion of survivorship bias (Part II of this book) in vain. His traders have all exited the business since then “to pursue other interests” (including him). But he gave the appearance of being a calm, measured man, who spoke his mind and knew how to put the other person at ease during a conversation. He was articulate, extremely presentable thanks to his athletic looks, well measured in his speech, and endowed with the extremely rare quality of being an excellent listener. His personal charm allowed him to win the confidence of the chairman—but I could not conceal my disrespect, particularly as he could not make out the nature of my conversation. In spite of his conservative looks he was a perfect time bomb, ticking away.
The second, whom I will call Jean-Patrice, in contrast, was a moody Frenchman with an explosive temper and a hyperaggressive personality. Except for those he truly liked (not that many), he was expert at making his subordinates uncomfortable, putting them in a state of constant anxiety. He greatly contributed to my formation as a risk taker; he is one of the very rare people who have the guts to care only about the generator, entirely oblivious of the results. He presented the wisdom of Solon, but, while one would expect someone with such personal wisdom and such understanding of randomness to lead a dull life, he lived a colorful one. In contrast with Kenny, who wore conservative dark suits and white shirts (his only indulgence was flashy equestrian Hermès ties), Jean-Patrice dressed like a peacock: blue shirts, plaid sports coats stuffed with gaudy silk pocket squares. No family-minded man, he rarely came to work before noon—though I can safely say that he carried his work with him to the most unlikely places. He frequently called me from Regine’s, an upscale nightclub in New York, waking me up at three in the morning to discuss some small (and irrelevant) details of my risk exposure. In spite of his slight corpulence, women seemed to find him irresistible; he frequently disappeared at midday and was unreachable for hours. His advantage might have been in his being a New York Frenchman with steady bathing habits. Once he invited me to discuss an urgent business issue with him. Characteristically, I found him mid-afternoon in a strange “club” in Paris that carried no nameplate and where he sat with documents strewn across the table from him. Sipping champagne, he was simultaneously caressed by two scantily dressed young ladies. Strangely, he involved them in the conversation as if they were part of the meeting. He even had one of the ladies pick up his constantly ringing mobile phone as he did not want our conversation to be interrupted.
I am still amazed at this flamboyant man’s obsession with risks, which he constantly played in his head—he literally thought of everything that could possibly happen. He forced me to make an alternative plan should a plane crash into the office building (way before the events of September 2001)—and fumed at my answer that the financial condition of his department would be of small interest to me in such circumstances. He had a horrible reputation as a philanderer, a temperamental boss capable of firing someone at a whim, yet he listened to me and understood every word I had to say, encouraging me to go the extra mile in my study of randomness. He taught me to look for the invisible risks of blowup in any portfolio. Not coincidentally, he has an immense respect for science and an almost fawning deference for scientists; a decade or so after we worked together he showed up unexpectedly during the defense of my doctoral thesis, smiling from the back of the room. While Kenny knew how to climb the ladder of an institution, reaching a high level in the organization before being forced out, Jean-Patrice did not have such a happy career, a matter that taught me to beware of mature financial institutions.
It can be disturbing for many self-styled “bottom line”–oriented people to be questioned about the histories that did not take place rather than the ones that actually happened. Clearly, to a no-nonsense person of the “s
uccessful in business” variety, my language (and, I have to reckon, some traits of my personality) appears strange and incomprehensible. To my amusement, the argument appears offensive to many.
The contrast between Kenny and Jean-Patrice is not a mere coincidence that I happened to witness in a protracted career. Beware the spendthrift “businesswise” person; the cemetery of markets is disproportionately well stocked with the self-styled “bottom line” people. In contrast with their customary Masters of the Universe demeanor, they suddenly look pale, humble, and hormone-deprived on the way to the personnel office for the customary discussion of the severance agreement.
GEORGE WILL IS NO SOLON:
ON COUNTERINTUITIVE TRUTHS
Realism can be punishing. Probabilistic skepticism is worse. It is difficult to go about life wearing probabilistic glasses, as one starts seeing fools of randomness all around, in a variety of situations—obdurate in their perceptional illusion. To start, it is impossible to read a historian’s analysis without questioning the inferences: We know that Hannibal and Hitler were mad in their pursuits, as Rome is not today Phoenician-speaking and Times Square in New York currently exhibits no swastikas. But what of all those generals who were equally foolish, but ended up winning the war and consequently the esteem of the historical chronicler? It is hard to think of Alexander the Great or Julius Caesar as men who won only in the visible history, but who could have suffered defeat in others. If we have heard of them, it is simply because they took considerable risks, along with thousands of others, and happened to win. They were intelligent, courageous, noble (at times), had the highest possible obtainable culture in their day—but so did thousands of others who live in the musty footnotes of history. Again I am not contesting that they won their wars—only the claims concerning the quality of their strategies. (My very first impression upon a recent rereading of the Iliad, the first in my adulthood, is that the epic poet did not judge his heroes by the result: Heroes won and lost battles in a manner that was totally independent of their own valor; their fate depended upon totally external forces, generally the explicit agency of the scheming gods (not devoid of nepotism). Heroes are heroes because they are heroic in behavior, not because they won or lost. Patrocles does not strike us as a hero because of his accomplishments (he was rapidly killed) but because he preferred to die than see Achilles sulking into inaction. Clearly, the epic poets understood invisible histories. Also later thinkers and poets had more elaborate methods for dealing with randomness, as we will see with stoicism.
Fooled by Randomness Page 6
