Taleb: Skin in the Game --- Book review

[qlai]

After blowing out at Paloma.

Can someone give an idea how the blow outs happened? From earlier readings, I was under impression that his idea was to be long gamma into black swan events and similar concepts like anti-fragile. Was he not practicing what he is preaching?

 

[destriero]

Can someone give an idea how the blow outs happened? From earlier readings, I was under impression that his idea was to be long gamma into black swan events and similar concepts like anti-fragile. Was he not practicing what he is preaching?

He was down something like 14% over two years. During the internet boom/telephony dereg period.

 

[El OchoCinco]

Only skin Taleb has in the game is foreskin

 

[destriero]

Only skin Taleb has in the game is foreskin

#uncut

 

[ironchef]

The best example of this comes from his industry, hedge funds. As the management fee get's driven down most hedge fund managers have the ultimate skin in the game, they don't stand to make anything until they at least beat their hurdle rate. Perfect setup according to Taleb, right? Turns out that it's great until the times it isn't. Like when it's November and you're underwater for the year. Research shows that hedge fund managers in this situation make outsized bets on far riskier investments then they would at any other time. Why? They've got very little to lose. They're already getting nothing.

You just proved Taleb's point sir. They've got nothing to lose, so they take unnecessary risks that do not align with investors'.

 

[ironchef]

I don’t know how much money he made. His returns (as published in the mainstream press don’t make sense).

But I do know he shut down his first hedge fund for poor returns.

And I do know people who have studied under him at NYU. None of them thought highly of him.

Thank you for your comments. I have no idea. However, as an old dog trying to learn finance and how to trade I do find his books, ideas very profound and thought provoking and I benefited from them.

Someone very good at his/her profession is generally not a good teacher/coach.

A bad teacher/coach do on occasion produce a Lebron James or an Einstein.

Best regards,

 

[Sig]

You just proved Taleb's point sir. They've got nothing to lose, so they take unnecessary risks that do not align with investors'.

If I told you that I've got a guy who is going to manage your hedge fund and there's two ways we can compensate him. Method one he only makes money if you make money and the more money he makes you the more money he makes and if he doesn't make you any money he gets nothing. The other method he gets paid the same no matter how much money he makes for you. After reading "Skin in the Game" (and before reading my post) pretty much everyone would say the first model is the epitome of "skin in the game". Only it turns out in some cases it doesn't actually produce the "skin in the game" benefits, there are big unintended consequences that Taleb ignores. Even if you required the hedge fund manager to tie the majority of their net worth into the fund, as @Frederick Foresight suggested and as many funds have done, you still don't avoid the moral hazard because pursuing a high variance strategy when you're under water is still optimal given that most fund managers are never more than a tiny percentage of AUM. And prospect theory is a real thing, it's hardwired into the human psyche to be risk seeking in losses and a difficult thing to fight even when you're fully aware of it, let alone when you're ignorant and have perverse incentives pushing you in that direction.

 

[nooby_mcnoob]

Skin in the game for portfolio manager is to have their own money in the fund... DUH! I believe @destriero did that for his current gig.

 

[ironchef]

If I told you that I've got a guy who is going to manage your hedge fund and there's two ways we can compensate him. Method one he only makes money if you make money and the more money he makes you the more money he makes and if he doesn't make you any money he gets nothing. The other method he gets paid the same no matter how much money he makes for you. After reading "Skin in the Game" (and before reading my post) pretty much everyone would say the first model is the epitome of "skin in the game". Only it turns out in some cases it doesn't actually produce the "skin in the game" benefits, there are big unintended consequences that Taleb ignores. Even if you required the hedge fund manager to tie the majority of their net worth into the fund, as @Frederick Foresight suggested and as many funds have done, you still don't avoid the moral hazard because pursuing a high variance strategy when you're under water is still optimal given that most fund managers are never more than a tiny percentage of AUM. And prospect theory is a real thing, it's hardwired into the human psyche to be risk seeking in losses and a difficult thing to fight even when you're fully aware of it, let alone when you're ignorant and have perverse incentives pushing you in that direction.

If you don't have the majority of your own assets in the fund so that if it does not perform you will suffer great personal losses, you don't have skin in the game. That is why the only mutual fund I ever own is BRK.

 

[Frederick Foresight]

...Even if you required the hedge fund manager to tie the majority of their net worth into the fund, as @Frederick Foresight suggested and as many funds have done, you still don't avoid the moral hazard because pursuing a high variance strategy when you're under water is still optimal given that most fund managers are never more than a tiny percentage of AUM. And prospect theory is a real thing, it's hardwired into the human psyche to be risk seeking in losses and a difficult thing to fight even when you're fully aware of it, let alone when you're ignorant and have perverse incentives pushing you in that direction.

So then what would be the best way to incentivize optimal performance?