re. Black Swan

Taleb posits two worlds: Mediocrestan and Extremistan. He describes Mediocrestan by having the audience imagine a group of 100 people and their distribution of weights. Then he says to determine how the average weight of the group would change if we added the heaviest person in the world to that group. It turns out to not affect the average that much – even if we add a 1,000 pound person, it shifts the average by only 0.5% or so. This is the world of the normal Gaussian distribution that we understand very well with standard deviations and the like.

Now do the same thought experiment, but use people’s wealth instead. Imagine a group of 100 typical people, and their average wealth. Now add Bill Gates to the group. At this point, 100 of the 101 people in the group are below average in wealth, and Bill Gates has approximately 100% of the wealth of the group. This is the world of Extremistan, where outliers can blow up the normal distribution. This is the world of the Black Swan.

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Nassim Nicholas Taleb and Nonlinearity – Eric Nehrlich, Unrepentant Generalist
This may seem like an abstruse topic but had very real consequences in the subprime meltdown, when investors theories’ did not take into account non-linear exponential failures of their models. <span>Taleb posits two worlds: Mediocrestan and Extremistan. He describes Mediocrestan by having the audience imagine a group of 100 people and their distribution of weights. Then he says to determine how the average weight of the group would change if we added the heaviest person in the world to that group. It turns out to not affect the average that much – even if we add a 1,000 pound person, it shifts the average by only 0.5% or so. This is the world of the normal Gaussian distribution that we understand very well with standard deviations and the like. Now do the same thought experiment, but use people’s wealth instead. Imagine a group of 100 typical people, and their average wealth. Now add Bill Gates to the group. At this point, 100 of the 101 people in the group are below average in wealth, and Bill Gates has approximately 100% of the wealth of the group. This is the world of Extremistan, where outliers can blow up the normal distribution. This is the world of the Black Swan. And what’s interesting is that we are so bad at dealing with Extremistan. We just don’t intuitively get it, even though we are surrounded by examples of it. Finance and wealth. Book pub