Sunday, October 20, 2013

A Dozen Things I’ve Learned from Nassim Taleb about Optionality/Investing

#3. “If you ‘have optionality,’ you don’t have much need for what is commonly called intelligence, knowledge, insight, skills, and these complicated things that take place in our brain cells. For you don’t have to be right that often. All you need is the wisdom to not do unintelligent things to hurt yourself (some acts of omission) and recognize favorable outcomes when they occur. (The key is that your assessment doesn’t need to be made beforehand, only after the outcome.)” 
Being able to make decisions which do not require correctly forecasting the future is a wonderful thing.  Not one of the great value investors identified in the series of posts in this blog relies on macro forecasts of the future.  Instead, value investors use the optionality of cash to buy after the outcome exists (i.e., a significant drop in intrinsic value). Regarding venture capital, Warren Buffett believes:  “If significant risk exists in a single transaction, overall risk should be reduced by making that purchase one of many mutually- independent commitments.  Thus, you may consciously purchase a risky investment – one that indeed has a significant possibility of causing loss or injury – if you believe that your gain, weighted  for probabilities, considerably exceeds your loss, comparably weighted, and if you can commit to a number of similar, but  unrelated opportunities.  Most venture capitalists employ this strategy.”

#4. “Optionality can be found everywhere if you know how to look.” 

Living in a city, going to parties, taking classes, acquiring entrepreneurial skills, having cash in your bank account, avoiding debt are all examples of activities which increase optionality.  As another example, a venture capitalist who invests in a team which (1) is strong technically, (2) has sound business judgment and (3) addresses a huge market opportunity has acquired optionality since the company can often find success with an offering the founders did not conceive from the beginning, but rather found as they went along.

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