Tuesday, June 17, 2008

Fooled by Randomness - Executive Summary

Quote of the week:
'Once you have the satisfying experience of this product, you will find you can't do without it.' - The reason why Japan is the second largest economy in the world - (PG-13 alert) Ahem ...
Help Wanted:

Ittihad is looking for an authentic genius (not like me - a real one) to work at our shining, pristine, glass enclosed cage (I mean Head Office) in Toronto for the summer (July / August). This genius will be called an Administrative Assistant and will be responsible for organizing the office and our infrastructure in a way that will allow Ittihad to take over the world one cubicle at a time. Ideally the person will be a University Student / Graduate who is willing to help administer, organize and help out with the many projects we have on the go while also interacting with the many illustrious CEO's and assorted big-wigs that drop in for a chat and Orange Juice from time to time. As such, excellent verbal, written and numerical skills are par for the course. The hourly pay is unlikely to be very high but the job satisfaction of working here will stay with you forever and will more than make up for the two months of poverty. An abiding interest in Islamic Finance or Ethical Finance would be an asset. Please send your resume directly to info@ittihadcapital.com . Do not call me or send me an email - if you do, I will become vindictive and ensure you do not get the job. I will also hide all your pens, put salt in your coffee and secretly put viruses on your computer if I am unable to get you fired in the unlikely event that you do get the job despite my wishes. Just try me.

Commentary of the week:

Fooled By Randomness - by Nassim Nicholas Taleb (Book Report):

I read a pretty fascinating book recently whose ideas I would like to share with you all (yes, I do read even though it seems to you that I only write long emails). I think it will serve you all very well in life and it is perhaps one of the most intelligent books on the nature of knowledge, particularly financial knowledge that I have ever come across. Unfortunately, it is intentionally written sometimes in an offhand manner so one has to be a bit weird and resolute to get through it. Thankfully for you, your humble correspondent has those qualities in droves. What I am about to tell you though, may cause you to think about this a bit so be careful. I may butcher the point or it may come across as less profound than it is so if you like truth, you might want to get the book and read it in order to double-check the beautiful lies I am about to tell you.

The book is fundamentally about the nature of knowledge, how we come to know things, how we really come to believe that we know things and then how we keep acting on that knowledge even though it may not be entirely accurate. In the interest of action, we take short-cuts in analysis. Furthermore, even if we were to take no short-cuts, some forms of knowledge are fundamentally unknowable. You cannot for example tell me what the price of oil will be tomorrow, next year or ten years from now with any kind of intentional correctness (I can tell you, but this is about you, not me). One cannot not just tell the future, but cannot also not tell what rules will be in place at that time that will determine its lived reality. In that sense, we are double-blind, not only can we not predict the future with any degree of planned accuracy, we cannot also assume that today's parameters will work the same way. Nassim calls this problem the Turkey problem. I can pass on turkeys but love Cows. I will call it the Cow problem.

Let us say that we have a cow that we own and love and feed every day. It was born on the Ittihad farm and we are trying to keep it healthy by giving it lots of exercise and lots of food. From the cow's perspective, this is a great life. Not only are the geniuses at Ittihad neglecting finance, they are giddily procuring hay and whatever else this cow loves and feeding it with great care. Let us say then that this continues for a matter of 2000 days. The cow has evidence over the 2000 days of its existence that the Ittihad tribe means it no harm. It continues bonding and nuzzling with us as if we were friends. On the 2001st day however, it is the Big Eid. The Ittihad tribe breaks out the sharp steel and heaven becomes richer by one cow-soul and the Earth becomes poorer by one cow. Now, from the perspective of the cow, was there ever any evidence that we did not have its best interests at heart? Let us make this even scarier, even if the cow knew we were secretly cow-killers, did the cow ever know which day Eid was going to be? You are right, I think not. In the way things really work, we are the cow. We are fundamentally unprepared for the nature of Reality. We only live in our own smaller realities but are subject to the larger Reality that is known only by the Divine.

From a financial perspective, the question of whether the markets will go up or down tomorrow is a somewhat similar situation. We tell ourselves a story and make up reasons for our actions once we are committed to the concept of investing. Nobody really knows and nobody really causes anything. There are so many reasons and causes that we would exhaust ourselves with 'paralysis by analysis' if were to try and understand Everything before we did anything. I don't want to depress you about things because even though I have spoken of this 'randomness', as he called it, in a negative sense, we could also have set the cow free on the 2001th day. That would take away from the gravity of the situation however, so we stick with the negative for a bit more.

So on a practical basis then, what can be done to get out of this situation of unknowing? The first thing of course, is to recognize the fallibility of what he calls 'scientism'. Much of the 'expertise' on display (guilty as charged?!) cannot be trusted to produce a result in all circumstances. It can only be expected to give a plausible story to explain what perhaps happened or what might happen. If something actually does happen the way it was explained, then that still does not mean that the explanation and the cause are the same. For example, for the longest time, much of Europe believed that the Sun revolved around the Earth and that caused sunrise and sunset. This was a perfectly good explanation for centuries that stood the test of time. But the cause of sunrise today is known to be the fact that I wake up in the morning and need to find my slippers so the light is helpful. Similarly, I want to sleep at night and God is infinitely merciful and provides me with night.

So what does any of this have to do with Finance? Well, the way he describes the idea is that most of what happens in the financial markets on a daily basis is not driven by any long-term mechanics but by daily occurrences which are fundamentally unpredictable and unknowable. In such a context, investing for the long-term makes about as much sense as applying for a job as a cow on the Ittihad farm. Yet we do it, and we are usually okay because usually it is not Eid, and usually it is not our turn to become steak anyway. I am oversimplifying his point here a bit but I think it is better to give you the extreme scenario in order for you all be a bit more discerning in the way you invest. But let us move to the applications of this idea in other areas of your life.

On some days then, life itself must change. We either become inspired by something that makes us alive, never to be the same again; or we lose something or someone of great value. We are thus constantly called to be present in a way that is devoid of foreknowledge. As people of Faith then, or no Faith but spirituality, we trust this foreknowledge and ascribe it to the Divine. When we trust just ourselves and lose the momentary nature of our being, crashes in both our structures of knowledge and in the public markets are usually just around the corner. I don't mean to belabour this point, but perhaps it is much better to simply prepare yourself not for any outside reality that you cannot really predict, but simply to prepare yourself for yourself. Maybe all the struggles are just internal, and the rest is just noise ... but my thoughts become random, just as was accurately predicted by the Book. You decide.

Upcoming Events:

We have been invited by TARIC mosque (located here) to present our views on Islamic Finance on Saturday, the 21st of June at 7:00 pm. I encourage everyone to attend with friends as the discussion will focus on the place that Islam does or does not have in our financial choices. By the end of the discussion, attendees should have a good idea about how to judge the IF field for themselves. This is a discussion that will IA take place outside the logic of a sales presentation so you can leave your cheque-books at home, we will accept Halal Credit Cards instead (Relax, I'm kidding). Come with friends and come with difficult questions - hopefully, we will trade in good ideas that will profit our minds.


Finance News:

1. Want to know what really happens to your mortgage after you sign it at the bank? ... read more here

2. Think your company pension plan is safe? Check again. I don't mean to alarm you but I have heard a lot of complaints on the issue ... read more here

3. We have not discussed the credit crisis for a while but here it is once more. It's not over yet ... read more here

Economic News:

1. I thought we were in a new age where words like stagflation were relics of the past, but I guess not

2. Canada's housing market cools ... read more here

Islamic / Middle East / Emerging Markets:

1. The UK Financial Services Authority about to announce its strategy vis a vis Islamic Finance soon ... read more here

Interesting but not all Finance:

1. Canada apologizes to the First Nations for a Century of abuse (hat-tip to Siddiq Mohamed) ... read more here

2. Harvard finally figures out what makes people happy. Took them long enough to find out about Zakat, eh? ... read more here

3. A car that runs on water, well not on water, but with water instead of gas. Again, it's the Japanese ... read more here

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