Author’s Note: This is the fifth in my series of six fundamental principles of holistic financial wellness in my book “Money Mountaineering.” Principle #5 is perhaps the most difficult and counterintuitive of the principles I espouse. In addition to using the word “antifragile” — which doesn’t appear in any dictionary you are likely to have in your house — it relies a great degree on the work of Nassim Taleb [an author, scholar and former derivatives trader.]
Fragility, hidden risks and how the world changes
“I know that history is going to be dominated by an improbable event, I just don’t know what that event will be.” ― Nassim Nicholas Taleb, “The Black Swan: The Impact of the Highly Improbable.”
What Dr. Taleb says above has been the case again and again in the last several thousand years, but I had to read his three books to really “get it” and start incorporating his insights into how I structure my financial life.
His first book, “Fooled by Randomness,” taught me that most of the probability and statistics I learned in college and as an actuary was, at best, incomplete, and often downright misleading.
His second book, “The Black Swan,” published in 2007, was sobering but not as disorienting to me because as an actuary I was used to helping my clients protect themselves against things that almost never happen. However, reading it helped me appreciate that the low probability/high impact events that do happen change the course of history. This was hammered home by both the 2008 financial crisis and the 2020 pandemic.
Taleb published “Antifragile” in 2012. By then, I was enough of a fan to buy it as soon as it came out and devoured it immediately. I learned from it that “fat-tailed distributions” aren’t just where black swans come from, but are also the breeding ground for events that can make you stronger when the world changes in dramatic and unexpected ways.
Principle # 5: Hope for the Best Prepare for the Worst
The principle says, “Organizing your financial life to survive a severe economic or life event is essential for long-term financial health. Strive to be antifragile.”
This means that first, you should prepare to survive a potential black-swan event. And second, you should try and structure your assets and liabilities in such a way that you benefit rather than suffer from the volatility that long-term exposure to markets governed by fat-tailed distributions will inevitably produce.
Living and working in Paris during the 2008 financial crisis gave me the benefit of being able to watch the financial world crack and crumble from a safe distance. For the first time in my life, I realized that almost everyone responsible for “managing” our economy and keeping the global financial system operating didn’t know what was happening.
Worse, they didn’t know how to stop the wildfire that was destroying corporations, banks and even a giant insurance company (AIG). It was also destroying the financial lives of millions of people who were losing their homes, jobs, pensions and retirement savings.
It is easy to forget how scary and uncertain those times were. Although our economy and the markets have recovered, the experience taught me that not only can it happen again, but eventually it will happen again — not a “real estate bubble induced financial meltdown” but something else just as unexpected and just as world changing.
When the Covid pandemic crashed our economy so severely that the U.S.’s unemployment rate increased from under 4% to 14.7% in one month, I was ready, or at least prepared enough, to not have to worry about my income or my ultimate financial survival.
Now that the economic crisis associated with Covid has passed, or at least morphed into something else, we are beginning to forget again how scared we all were about our money and our jobs. We feel that things are getting back to normal, at least economically. Maybe so, but I still think we should incorporate the lessons of these two black swan events into how we manage our financial lives. I believe that keeping holistic financial wellness principle #5 in mind can help.
So, what did I do to prepare, and why am I feeling OK financially?
It is because I took a “barbell” approach to my financial life to become antifragile. I also made sure, through redundancy and insurance, that if one part of my personal balance sheet disappeared, I would still have enough resources to sustain myself and rebuild anything that was lost.
Before I tell you a bit about what I did, I want to go slightly deeper into the insights that informed that strategy. From Dr. Taleb’s books, I learned that:
- When investment experts pronounce the future behavior of investment markets based on “historical patterns” — including capital market assumptions that come from “sample means, sample variances and sample correlation coefficients” — they are almost certainly wrong. That’s because one of the statistical consequences of being in a fat-tailed distribution is that you will never be able to collect enough historical data to know just how likely or unlikely extreme returns (positive and negative) will be in a given market, whether it be soybean futures or cryptocurrency.
- The situation is not as hopeless as the above would suggest because it is possible to gain some insight into the nature and extent of the “fatness” of the tail of a given distribution. In particular, it is often possible to determine whether the likely nature of the distribution provides an opportunity for profiting from volatility.
It is not at all obvious how to take advantage of item No. 2 from a theoretical perspective. But as a practical matter, I believe the concept of using a “barbell strategy,” as I describe in Chapter 8 of “Money Mountaineering,” is worth considering.
My financial journey
Beginning in early 2008 I started to model my financial strategy along these lines. First, I spread my money among different banks and eventually had significant percentages in four different major institutions.
At the same time, I started to radically diversify my sources of retirement income. I eventually obtained life insurance and annuities from three different major insurance companies. I also have a charitable remainder annuity trust from my old school. Its endowment of almost $500 million will backstop the life income they will begin paying me when I turn 65.
I also made sure that I have enough insurance to protect me against known contingencies such as death, disability and other easily imaginable hazards (such as fire, theft and being sued).
For the next few years, I didn’t worry too much about my long-term financial security. I had a secure and stable spot in the actuarial profession and was confident I would have enough income to meet my needs and then some until I had to stop working as a W-2 employee. That didn’t happen until five years ago when, in 2016, my company merged with another giant consulting/brokerage firm, and I decided to take early retirement.
As soon as I retired, I organized my financial life as two barbells. One houses a collection of diversified assets that will provide me with secure, steady income — enough for me to live on if I lose everything else. This includes the annuities I described above, as well as cash value life insurance, pension benefits that I now receive from the companies I worked for as an actuary, and an old 401(k) plan that is 100% invested in U.S, TIPS (Treasury inflation-protected securities). This barbell comprise a large percentage of my assets.
My second barbell includes some highly speculative investments (mostly collectibles). Such investments are unlikely to earn anything but every once in a while you can hit a home run. I didn’t have enough investable assets to construct a true second barbell (e.g., by becoming an angel investor in multiple start-ups). Instead, I decided to invest my time in lots of different side ventures. Most of them will likely come to naught, but any one could substantially reward me if it’s successful.
Antifragility and irons
Over the last few years, many of my friends and colleagues have wondered why I speak so frequently about Dr. Taleb with what is sometimes perceived as “missionary zeal.” I hope this essay has provided at least a partial answer.
The truth is that if and when a true apocalypse comes, none of what I or Taleb says will matter much. But until that day arrives, his insights are well worth absorbing — particularly his understanding of the fat-tailed distributions in which we find ourselves embedded. For me, the message is clear: If you live your life believing that life follows a normal distribution, you will find that things almost never turn out as badly as you fear — except when they turn out much, much worse.”
But things can also turn out much, much better than you expect, and that is where antifragility comes in. Perhaps the best way I can explain my approach is to quote the advice my father gave me throughout my childhood (“Hope for the best, but prepare for the worst.”) and shortly after I graduated from college (“Keep as many irons in the fire as you can.”). These are two of the teachings that have allowed me to survive and thrive in the world of money for over 40 years.
Peter Neuwirth, FSA, FCA, is a fellow of the Society of Actuaries and the Conference of Consulting Actuaries and a consultant for large corporations on their retirement plans. This excerpt is from an essay about principle 5 of holistic planning that he writes about in his book, “Money Mountaineering.”