Fooled and Poked By Random Liars

3 Jan 2009

In 2008, the Invisible Hand was caught in the Invisible Till, and markets around the globe crashed in one of those freak, once-in-a-million-centuries events that happens every four or five years. As such, it seemed like a good time to improve my woefully limited knowledge of finance, if only to learn what used to be in that big, smoking crater. To this end, I borrowed a couple of books written by prominent nay-sayers in the field. The first is Liar’s Poker, by Michael Lewis. This is an account of his time at Wall Street trading firm Saloman Brothers during the 1980’s. While mostly autobiographical, it contains a large chunk (around a third) dealing with the emerging mortgage securities market. This doesn’t have the same immediacy as the personal recollections, but the subject matter is particular interesting given the origins of the current, ahem, hiccup.

In fact, the main thing that strikes you reading Liar’s Poker is that, even though it was written twenty years ago, it feels as if it (or something very like it) could have been written today. Lewis himself more or less says as much in a recent article. It’s both worrying and very entertaining, in a schadenfreudery kind of way, but you do need to bear in mind that it was written by one of the winners, someone who got out mostly intact. It needs to be read with a huge heaping of salt, and an understanding of survivorship bias. This leads us onto the next book.

Fooled by Randomness, by Nassim Nicholas Taleb, bears the subtitle “The Hidden Role of Chance in Life and the Markets”. It’s a kind of precursor to the author’s better-known “The Black Swan” (which is waiting for me on my shelf). It covers probability, and people’s general inability to cope with it both intellectually and emotionally. Appropriately enough, given this this subject matter, it manages to be both pleasantly personal and reasonably rigorous, though I get the impression that the author would disavow any claim to the latter.

Much of the technical ground (survivorship bias, sampling, conditional probabilities, reptilian brain) covered seemed familiar, though I couldn’t put my finger on where I’d picked it up. Nevertheless, the presentation is engaging, and a worthwhile overview and refresher. More interesting is the context in which Taleb puts these ideas. His twin causes seem to be scepticism, and an acceptance of human irrationality (especially your own). This raises it above the field of cosy, anecdote-based paperbacks that seem to be required reading for politicians these days. However, possibly I’m exhibiting an emotional response to just having invested time in reading the book. You never know.

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