Nassim Taleb has been focused on the difference between fragile and anti-fragile systems for a number of years. It is a great way to think about many problems form those in finance to political issues. The application of this concept is significant beyond any one field of study. Recently, Nassim has written about this concept in the political realm for Foreign Affairs in "The Calm before the Storm." This is just a further extension of his book Anti-fragile which we have written about in the past.
The concept of fragile and anti-fragile strategies is very useful for explaining difference is hedge fund strategies. An investor should try to have some ant-fragile systems as a form of diversification. Since an anti-fragile system may not be the best performer when markets a calm, investors have to accept and expect a different return profile for these strategies. Markets are generally calm because policies, politics, and the business cycle are calm. Markets behave according to conventional wisdom as expressed through past correlations. However, this does mean placing all of your money in fragile systems based the status quo of market behavior. The chance of extreme events are real and strategies that can at least survive and possibly thrive during market dislocations are well worth investigating.
Managed futures is an anti-fragile strategy. However, the value in managed futures is not just based on its performance in absolute return or relative to traditional assets. Forget about just looking for low correlation, The focus should be placed on its crisis alpha, or diversification in behavior when there is an unexpected event or dislocation. Managed futures (trend-following) is an anti-fragile system because it tries to profit when markets have divergences or are in a state of disequilibrium.
The focus on strategy diversification should be much broader and deeper than looking at the numbers. Investors want to have some strategies that do well when the world is no longer calm. When there is disorder and the unusual, or when there are market divergences and disequilibrium, investors want something in their portfolio which will actually do better. This is the foundation for divergent trading strategies.
Strategies that like order will be confused when there is more uncertainty or a movement to the extremes. Fragile strategies will be run by the managers who say, "I don't understand why cheap stocks are getting cheaper!" or "The markets should not be acting this way." They are the ones who search for rational behavior that can be easily explained, yet market may move to states which are not easily explainable. Albeit moving to these extremes is often rare, but the risk at these times is extremely high. Preparation for these extremes is not about hedging or insurance but rather a state of mind on how to act when there is high uncertainty.
The anti-fragile system does not have a requirement for the market to make sense. It looks forward to uncertainty as a period of opportunity and strength. It is not that disorder is chosen. Rather disorder is something that provides opportunity. At these times the best strategy is being disciplined and following market prices even if it is at odds with conventional wisdom from models that are not working. Investment surviving is best done through being able to accept and exploit uncertainty.
(See my post, Lakewood-Views: Describing disorder, Lakewood-Views: Quotes from Nassim Taleb's Anti-fragile, Lakewood-Views: Anti-fragile will change your thinking. )
The concept of fragile and anti-fragile strategies is very useful for explaining difference is hedge fund strategies. An investor should try to have some ant-fragile systems as a form of diversification. Since an anti-fragile system may not be the best performer when markets a calm, investors have to accept and expect a different return profile for these strategies. Markets are generally calm because policies, politics, and the business cycle are calm. Markets behave according to conventional wisdom as expressed through past correlations. However, this does mean placing all of your money in fragile systems based the status quo of market behavior. The chance of extreme events are real and strategies that can at least survive and possibly thrive during market dislocations are well worth investigating.
Managed futures is an anti-fragile strategy. However, the value in managed futures is not just based on its performance in absolute return or relative to traditional assets. Forget about just looking for low correlation, The focus should be placed on its crisis alpha, or diversification in behavior when there is an unexpected event or dislocation. Managed futures (trend-following) is an anti-fragile system because it tries to profit when markets have divergences or are in a state of disequilibrium.
The focus on strategy diversification should be much broader and deeper than looking at the numbers. Investors want to have some strategies that do well when the world is no longer calm. When there is disorder and the unusual, or when there are market divergences and disequilibrium, investors want something in their portfolio which will actually do better. This is the foundation for divergent trading strategies.
Strategies that like order will be confused when there is more uncertainty or a movement to the extremes. Fragile strategies will be run by the managers who say, "I don't understand why cheap stocks are getting cheaper!" or "The markets should not be acting this way." They are the ones who search for rational behavior that can be easily explained, yet market may move to states which are not easily explainable. Albeit moving to these extremes is often rare, but the risk at these times is extremely high. Preparation for these extremes is not about hedging or insurance but rather a state of mind on how to act when there is high uncertainty.
The anti-fragile system does not have a requirement for the market to make sense. It looks forward to uncertainty as a period of opportunity and strength. It is not that disorder is chosen. Rather disorder is something that provides opportunity. At these times the best strategy is being disciplined and following market prices even if it is at odds with conventional wisdom from models that are not working. Investment surviving is best done through being able to accept and exploit uncertainty.
(See my post, Lakewood-Views: Describing disorder, Lakewood-Views: Quotes from Nassim Taleb's Anti-fragile, Lakewood-Views: Anti-fragile will change your thinking. )
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