3 Black Swans

[Cutten]

Quote from Maverick74:

There are three attributes Taleb assigns to black swans:

1) They cannot be "accurately" predicted. I predict one day an alien space ship will land on the white house lawn. Two hundred years from now, it actually happens. Does that make it a black swan? Yes. Sure, I predicted it, but there is no way I can acccurately predict exactly when aliens will land on the white house lawn. What good is a prediction if there is not an accuracy component to it. That's like saying one year, the Cubs will win the World Series. Which year!!!!!! Anybody can throw shit against the wall, some of it is bound to stick.

It's still predicted though, therefore not a Black Swan. Given the incredibly long odds against that alien landing happening on that exact spot, it would be a GREAT prediction if it came true, even with a 200 year timeframe.

Let's get back to the examples Taleb cited. Morgan Stanley's head of WTC security in the early 1990s predicted that arab terrorists would blow up the WTC with a truck bomb. They did exactly that 1 year later. The basement was then reinforced (too late) to stop a repeat. Rescorla then said that the other vulnerability was to an attack from the air. Again he was ignored. 6-7 years later he was proven *exactly right*. If people had listened to him, the 9/11 attacks would not have killed anyone, and would not have destroyed the towers. He predicted it - none of your obfuscation about aliens and 200 year timeframes will get around that basic fact.

Now, someone whose job it was to think about these things *specifically* predicted pretty much the exact details of the 9/11 attacks. Yet Taleb says it was impossible to predict. Taleb is wrong. 9/11 was not a Black Swan, it was a predictable, and *predicted* event - at least by this guy. You don't get to call something unpredictable just because you personally are too uninformed or unskilled to be able to predict it.

Taleb is in the business of selling books, and trying to establish himself with a reputation as a thinker. It is therefore no surprise that he overeggs the Black Swan concept. I have cited 4 cases where *every example* he uses as a Black Swan was not a Black Swan - using the strict definition, they are not Black Swans.

In the financial markets, very few things are Black Swans, because "outlier" moves happen so often. The only real Black Swans in finance are things like WWI where the market shuts down for months. Even that is not really a Black Swan, since war is a common event historically, and should be contingency planned for. If you go bust because of a war, you planned poorly. Ditto with the communists closing the stock exchange - that is what communists do.

A Black Swan in finance would be something like the S&P going to 100,000 then to 1 then back to 1250, all in one day. Not crashing 20% in a day, or rallying 100% in 6 weeks - since that has happened to major stock indices before. If the Republicans closed the stock exchange at random, *that* would be a Black Swan.

Thus I postulate that there is virtually no such thing as Black Swans in the financial markets. Taleb's concept, if applied strictly using his definition, is irrelevant for traders. The only *genuine* Black Swans in markets, by this strict definition, are those that - again by definition - cannot be adequately planned for.

So, if we're using the strict definition, then Black Swan is a meaningless term for trading. That's why it's used with the looser definition of a very significant price move that comes as a surprise to the majority (but not all) of market participants. That was the definition I was using, and the one that Taleb himself appears to use.

My challenge to you and others who agree with your definition of Black Swan: name me some that have happened in the financial markets.

 

[dtrader98]

Quote from Cutten:

I am disagreeing with his statement that they were impossible to predict, or not predicted. He is calling things black swans when not only were they possible to be predicted, but they WERE predicted by specific people in advance. Did you even click the Rescorla link I posted up?

Even ignoring Rescorla, 9/11 was accurately predicted both by the hijackers and the people who bought puts on WTC tenants in the days leading up to the attack. Thus it was not unpredictable. If it was not unpredictable, then how can it be a Black Swan?

Also there is nothing in the Black Swan definition that says you have to predict the exact timing. Even Paul Tudor Jones did not know *exactly* when the Oct 87 crash would occur. It is ridiculous to say an event was not predicted just because the prediction had a wide time range.

As for your other suggested "Black Swans":

The devaluation of the Deutsche Mark in 1920 - wrong, it was predicted by the German government members who adopted that policy, and many competent forex speculators of the time

the AIDS virus - agree, that was a Black Swan for a while, at least for the 3rd world (1st world impact was minor).

The assasination of Jack Kennedy - wrong, this was predicted by the assassin and whoever was involved with him.

I think he is referring to unpredictability in a statistical sense. I could come up with a list of an infinite number of predictions of events-- and if some event happens, can I say I predicted it? Sure, in retrospect.

However, if you try to assign some likelihood to events using some type of statistical reasoning, some might have a higher likelihood of occurring than others.

If the likelihood of aliens landing is extremely small from a statistical sense
(you could try to formulate some type of hypothesis about number of known stars , potential to support life, etc..), and it did in fact occur, then, in retrospect it could be called a black swan IMO.

Someone who is a direct participant in the cause of an event, can generally predict some type of outcome. The degree of likelihood can vary. If I throw a
ball up in the air, I can say with a pretty good likelihood that it will come back down to earth. Not a black swan event in retrospect (however, if it kept on traveling to MARS, I would consider that a black swan event).

If I were to participate in an event like changing currency policy, I might have a higher likelihood of predicting the outcome of the effect on currency in the immediate future than the larger population of participants. The definition is relative here. It may not be a black swan to myself (the policy changer), but to the larger population it might.

However, to the large sample of other participants in the population, it could just as likely look like a black swan event in retrospect.

Was 87 a black swan event? Sure. Back to the infinite outcome list. 50million people might have made predictions, a few may have been correct. The statistical likelihood of those predicting that outcome would be small. However, in an infinite universe (of retrospective cherry picking) someone has to be right.

 

[Cutten]

Quote from dtrader98:

I think he is referring to unpredictability in a statistical sense. I could come up with a list of an infinite number of predictions of events-- and if some event happens, can I say I predicted it? Sure, in retrospect.

However, if you try to assign some likelihood to events using some type of statistical reasoning, some might have a higher likelihood of occurring than others.

If the likelihood of aliens landing is extremely small from a statistical sense
(you could try to formulate some type of hypothesis about number of known stars , potential to support life, etc..), and it did in fact occur, then, in retrospect it could be called a black swan IMO.

Someone who is a direct participant in the cause of an event, can generally predict some type of outcome. The degree of likelihood can vary. If I throw a
ball up in the air, I can say with a pretty good likelihood that it will come back down to earth. Not a black swan event in retrospect.

If I were to participate in an event like changing currency policy, I might have a higher likelihood of predicting the outcome of the affect on currency in the immediate future.

However, to the large sample of other participants in the population, it could just as likely look like a black swan event in retrospect.

I agree that what it means are "low probability events". However, that is not what maverick and others think - in fact, they *specifically* disagreed with me on that very issue. They defined "Black Swan" not as "hard to predict", but "impossible to predict". Big difference.

Secondly, my point is that the probability only looks low to the ignorant, in many of these cases. To Rick Rescorla - a guy who understood the Muslim world and Arab terrorism, as well as security issues - the probability of 9/11 may have been 80% or higher. Taleb is mistaken to arrogantly claim it was unpredictable - effectively he is saying everyone was as ignorant about WTC and US security as he was.

A true Black Swan has a very low probability to *everyone*, even the most informed and risk-aware contingency planners and skilled forecasters (I mean proper forecasters like successful speculators, not economic consultants and others with no proven record of forecasting ability). And those events are very rare indeed, almost to the point of irrelevance/impossibility. And by definition you can't do anything to prepare for them. Thus in a trading sense, it's a waste of time to even discuss them.

IMO, 99% of things called Black Swans are not Black Swans under the strict definition. They are Black Swans under the (pragmatic, useful) wider definition i.e. high-impact events considered highly unlikely by the majority (but often considered very likely by the informed minority).

I agree that Oct 87 was a Black Swan, under the pragmatic, loose definition. I was just explaining to Maverick, scriabinop and others who tried to disagree with me, by pointing out the holes in their logic. 87 was predicted by the skilled and the informed, if not by the majority - therefore Black Swans can be predicted, even though they are a huge shock to the majority. Thus Mav etc are mistaken, unless they stick to the strict definition - which actually rules out 99% of things that even *they* consider to be Black Swans. The strict definition is VERY strict, much more than even Taleb seems to appreciate.

Oil to $200, or S&P 1000 in the next 2-3 months is high impact for any trader, and considered unlikely (check options prices - although since my original post the odds have gone up) by the majority. Hence my thread title.

 

[dtrader98]

Quote from Cutten:


IMO, 99% of things called Black Swans are not Black Swans under the strict definition. They are Black Swans under the (pragmatic, useful) wider definition i.e. high-impact events considered highly unlikely by the majority (but often considered very likely by the informed minority).

I think I agree with most of your reasoning (have to go back and read the rest of the thread). However, by the above pragmatic definition 87 was a black swan to the larger uninformed (statistical) population, even though some insiders may have had a very high likelihood of expecting it. By that definition, it was a financial black swan IMO.

It was unpredictable to the masses. i.e. those that did have insight would be considered to fall in the statistically significant area of confidence levels. But, both pragmatically and statistically to the population at large, it was a black swan in retrospect.

I would say with regards to trading, unless you are an insider, based upon statistics you can pretty much assume the market will not implode to zero tomorrow (although there is a tiny probability it might). And if it does-- in retrospect, that would be a black swan according to my interpretation of taleb, even if the 10 most powerful bilderbergs/illumnati/etc... carefully conspired, planned, expected, and achieved it.

Regarding Taleb, he does tend to be a bit arrogant regarding his self imposed superiority over academic and other professional experts (engineers, physicists, etc.).
I think he's a bit skewed in that regard.
Most academics don't disagree with his views to the extent that he seems to portray in his books. In a sense, I would argue that he's a victim of his own overconfidence.

----------------------------------

thought experiment.

Person X received a tiny device (from aliens) that has a 100% certainty of destroying any local galaxy (conceivable, thus probable, by strict statistics). He secretly decides to detonate it tomorrow
(telling no one of his plans). Say, it's tomorrow, he did it and we are all goners. Was it predictable? To him, 100%.

To the masses ~0%. I consider that a black swan event. How does that differ from taleb's interpretation of a black swan??

 

[IV_Trader]

Quote from Cutten:




My challenge to you and others who agree with your definition of Black Swan: name me some that have happened in the financial markets.

What would you call a 100 times Chernobyl type of the incident (unplanned, un sabotage) in one of G-8 countries? Make it on the day of expiration and vix at all time low.
Would you call it predictable based on some employee comment from 20 years ago : “ this shit will blow up one day “ ?

 

[Maverick74]

Cutten, I am sorry. I still don't agree with you. Secondly, this seems to be a personal issue you have with Taleb himself.

But back to your argument. I'm sorry man, you can't claim that an event is predictable to the person doing the event. This is the most outrageous claim yet. So If I blow up the world, it cannot be a black swan because I had knowledge of the event beforehand? LOL. OK, well that is your definition of a black swan, not Taleb's and it's preposterous.

Secondly, let's do an acid test. Take any event that you think someone was genus enough to predict and let's see if they can do it again. I think you will find that they can't. The reason is because they got lucky the first time. There were a lot of guys who were short the market going into the 87 crash who never made a single dime trading ever again. It's the proverbial "even a broken clock is right twice a day". Take the guy that buys a winning lottery ticket. According to you, that's an event that was predicted by the ticket buyer. I say bullshit, the guy got lucky and if he bought another million tickets, it's highly unlikely he would win again because of his ability to pick winning tickets. Of course, he could get "lucky" again.

I'm not buying the 9/11 story either. Look Cutten, you can say what you want about how predictable 9/11 was, but I'm sorry, there were a million things that had to go exactly perfectly that day in order for those 13 hijackers to do what they did. I have said this many times, had the weather not been absolutely perfect that day, had there been limited visibility, those planes would not have made it anywhere near the WTC. The fact that people warned it was a likely event, does not make it so. The fact of the matter is if that event were tried again, without the exact conditions that allowed it to happen the first time, it would not be successfully pulled off.

The point Taleb is trying to make is that there is something called the unknown unknowns. Things we don't know that we don't know. And there really is no way for anyone to "accurately" predict what we don't know we don't know. That most of what happens in life is very random. You seem to be mistaking luck for skill which ironically is what his entire book was about. People who are charlatans who try to sell their "skills" when in fact, they are simply lucky.

The true test of skill is repeatability. Can that "skilled" person do it again? For example, Tiger Woods sinks a 45 foot put. Someone says he got lucky. Tiger Woods then goes on to sink that exact same put 100 more times in his career. That is called "skill". If I happen to sink that put once in my life, should I then try to go around the country and sell myself as a professional golf instructor who can put just as good as Tiger Woods? Of course not.

You are right though that there are very few financial events that qualify as black swans. Really very few events in general qualify as black swans. We are going to have to agree to disagree. From your comments though, it appears as though you have not read his book "The Black Swan". Maybe skimmed it. I will say it again, I think he very clearly outlined what "his" definition of a black swan is. If you want to create your own definition, that's fine. But at least state that is what you are doing.

 

[AMT4SWA]

Quote from AMT4SWA:

Keep in mind....if S&P trades down to sub 1270's and tests the March lows there will NOT be any bounce this time imo. From a pure AMT (Auction Market Theory) standpoint, I think we will ACCELERATE through the March lows to a new lower trading range. LONG positions held from the March lows will dump out fast which will punch us through to new yearly lows.....plus there just wont be enough buying on a third trip down without a major news event imo (something major like a big sell-off in commodities, etc).

I have longer term Short ES positions that I will not start scaling out until 1270's....I am looking for a new LOWER trading range before the end of summer.

We now have trading down into a new lower trading range even as oil pulls back somewhat....I covered 5% of my remaining position at 1245.00 today. We are now in the price range where selling could accelerate with one or two big sell-off days. If the bulls want to hold this market they better make their fight right now.

 

[capmac]

5-Alarm Fire at Fannie, Freddie: Paulson Nixes Bailout -- for Now

Posted Jul 11, 2008 10:55am EDT by Aaron Task in Investing, Newsmakers, Recession, Banking

Related: FNM, FRE, LEH, JPM, BAC, C, XLF

Fannie Mae and Freddie Mac tumbled again Friday as speculation about possible government intervention accelerated, thanks to a NY Times story on the subject.

Hopes for a government bailout rose further - and stocks climbed from their initial descent - on reports Treasury Secretary Paulson would make a statement on the GSEs. But the optimism proved misplaced. Paulson downplayed the likelihood of a government bailout of Fannie and Freddie, and financial markets tumbled anew.

"Today our primary focus is supporting Fannie Mae and Freddie Mac in their current form as they carry out their important mission,'' Paulson said in a statement. (Italics added.)

Still, Fannie and Freddie really are "too big to fail," as Dennis Berman, The Wall Street Journal's Global Deals Editor, and I discuss in the accompanying video.

"Bear Stearns is a pimple on a pimple" compared to Fannie and Freddie, Berman says. "These companies cannot fail. They cannot."

Given their huge importance in the mortgage-backed securities market, the government's main goal will likely be to ensure Fannie and Freddie's debt obligations, which will (hopefully) prevent systemic risk in the financial system. But shareholders of the two companies are likely to be left holding the bag - and an empty one at that.

In the accompanying video (taped prior to Paulson's comments), Berman and I also discuss whether the nationalization of the firms - in one form or another - represents the end of capitalism as we know it - or its possible salvation.

 

[AMT4SWA]

Quote from AMT4SWA:

We now have trading down into a new lower trading range even as oil pulls back somewhat....I covered 5% of my remaining position at 1245.00 today. We are now in the price range where selling could accelerate with one or two big sell-off days. If the bulls want to hold this market they better make their fight right now.

5% out at 1235.00 and 30% out at 1230.00 (primary 200 pt profit target from 1430 area avg cost basis entry).

Last 10% will be held for any major blowout selling sub 1200's....primary objective of the trade has been met with the fill at 1230.00 today. That was one hell of a ride! :eek:

 

[AMT4SWA]

Quote from AMT4SWA:

5% out at 1235.00 and 30% out at 1230.00 (primary 200 pt profit target from 1430 area avg cost basis entry).

Last 10% will be held for any major blowout selling sub 1200's....primary objective of the trade has been met with the fill at 1230.00 today. That was one hell of a ride! :eek:

Decided to cover 5% of my position as we punched through 1205.00 looking for a 1200.00 tag.......the cost basis of my covers is close to the 1204/1205 level. With oil dropping and a strong LONG marketdelta based signal, I decided to cover all my remaining short ES positions at 1210.00.....I also entered a small intradday LONG ES trade which is now flat as we broke the 1225 level.

Flat ES now and standing by for the day.