• Rush Eby

Antifragile: Books To Read Before You Die

Flip on CNBC and it won’t be long before you see a talking head materialize along with a qualifying subheading like:

“Predicted the 2007 real estate crisis.”

“Called AAPL as a good buy in 2011.”

“Said boot cut jeans looked bad in 2002.”


And while some commentators may have made some accurate assessments (in addition to wrong ones), Nassim Taleb stands out as the guy who actually makes money from these events. Instead of adding it to his resume, Nassim’s mentality operates on an entirely different plane than your mutual fund advisor. It operates in the realm of risk management.

If you are familiar with stocks, you’re likely acquainted with the VIX. The VIX is a measure of anticipated market volatility. Behavioral economics dictate that you view volatility asymmetrically. Downwards motion has a more significant association with dramatic movements than progress (hence the maxim “markets don’t crash upwards”).

But behavioral economics aside, true mathematical volatility is a measure distinguished from the up/down of movement publications like the Wall Street Journal inevitably fixate on.

Options traders think very differently than typical investors. Publications like the Wall Street Journal fixate on the vertical: the binary up and down motion of stocks. And if you’re a buy and hold investor, this is probably pretty much all that you’re concerned with.

But stock options are much more complex. The additional elements of strike price and expiration date introduce a host of other variables that affect valuation, which are commonly known as delta, vega, gamma, and theta. These quotients represent historical and implied (as measured by price) volatility, time decay, the ratio of option price change along with its associated underlying and more. The result is that option-strategy exists on multiple other dimensions that underlying security flatlanders can’t even conceive of. The end product is a probabilistic puzzle so complex that a decent model of option valuation wasn’t even published until the 1970s.

Because options traders can create positions that isolate themselves from price movement and profit instead on volatility or lack thereof, they have a nonlinear relationship to the market’s movements. It isn’t as simple as their portfolio going up or down when the market goes up or down. Their profits depend on how much the market goes up or down and how quickly. This means that risk must be measured on a curve.

A pro-volatility options position’s risk graph looks like a smile. The X-axis is the underlying’s price, and the Y-axis is the position’s profit. It’s a smile because when the position profits when the price is dramatically up or down (to the left or right) but loses money when price stagnates and goes sideways.

Nassim calls this situation convex, and the inverse concave (a position that profits from markets moving sideways but loses on any volatility).

This creates an interesting dilemma for an options trader. A concave position has a much higher probability of profit. In fact, a strategy that strictly takes these positions will create a nice forty-five-degree equity curve on your position that is sure to make you look like a genius. The only problem is that you are susceptible to theoretically unlimited losses (more than your account, since a concave position takes on liability in exchange for premium). All it takes is one very bad day to obliterate all of your steady profits. Unless you hedge yourself, doom is inevitable.

But a convex position has unlimited potential for profit. If you could put these on cheaply, then you would inevitably become rich sooner or later. However, at realistic market prices, you’ll steadily see losses that will likely cause you to lose your shirt on time decay long before that “home run” ever happens.

It’s hard to find an easy win in the stock market because the nature of its liquidity and volume means that by the time you see a deal, someone faster than you will snag the profit before you can even get your Italian calfskin loafers on.

But in business, there is no all-seeing eye that catches every opportunity and front runs it. Your unique position in the business world means that you can create your own convex “trades” at little or no cost.

Need an illustration? I thought so. Here’s an easy one to start.

You someone who knows more than you in your area of business. Here’s the position:

You reach out to them. Cost: $0

You get them coffee. Cost: $8 to get coffee for both of you and tip well ($11 if you’re both hipsters and opt for the single-origin pour-over).

Potential that you’ll learn something else useful or profitable: a lot

Cash value of a substantial client referral: $6500/month for the next year

Even at the single-origin pour-over price, you could potentially take out five hundred ninety people for coffee for just one good referral and be at breakeven after the first month.

What are some other high reward, low-risk endeavors for your business?

What would it be worth it to you if someone could get you in the top four of Google’s search results page? What would it cost?

What would it be worth it to you if you could get relevant personalities talking about your brand? What would it cost?

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