You completely misunderstood Taleb’s point. In fact, you’re arguing in favor of it without even noticing, but more on that at the end.
Your basic misunderstanding is that the barbell strategy is not about finding something that’s completely safe; it’s about dealing with our inability of estimating the real risk behind things that are presented as medium-risk investments.
With low-volatility assets, we need to use plenty of leverage for the portfolio to move at all. However, if we don’t know the real volatility (and we never do, contrary to what portfolio-theory people say), it will result in a blowup. LTCM did exactly this: they over-leveraged their investments based on an incorrect model that suggested it was safe to do so and then they blew up when the market moved just a tiny bit more than their model predicted. Medium-risk investments are not always so, but we never know why, and when it turns out they weren’t, it’s too late and we go bust.
With risky assets, the above problem doesn’t exist: we can use small leverages because we know the occasional large moves will take care of moving the portfolio just enough.
Enter the barbell. I’ll stick to financial investments here but the same principle applies everywhere. While treasury bonds are clearly not 100% secure, they are as secure as we can have at the moment, so they will be our “safe” 90% of the portfolio and the remaining 10% will go to truly risky investments. Now, let’s imagine a 2-fold change in the value of the risky asset; there’s an equal probability for the same move up or down. If it moves down, we lose 5% of our value. If it moves up, we gain 10% of our value: this asymmetry is what the barbell is about.
Obviously, not many things double or half in value overnight, and even what does will do it rarely. So, the barbell strategy depends on as many small risky investments as possible, as the frequency of one of them go up enough would increase. (In Taleb’s original case, he sold options that he thought were overpriced and, from the profits, bought options that he thought were underpriced. If the market didn’t move, he made some money, if the market moved a bit, he lost some money, if the market moved a lot, he made a fortune.)
“Risky investment” doesn’t have to mean “dangerous” by the way. Your example of having a bunch of foreign friends is a perfect example for the barbell strategy: you invest a known and limited amount of your “capital” (a few minutes a week of your time) in exchange for a potential, though not guaranteed, upside of unknown magnitude.
You completely misunderstood Taleb’s point. In fact, you’re arguing in favor of it without even noticing, but more on that at the end.
Your basic misunderstanding is that the barbell strategy is not about finding something that’s completely safe; it’s about dealing with our inability of estimating the real risk behind things that are presented as medium-risk investments.
With low-volatility assets, we need to use plenty of leverage for the portfolio to move at all. However, if we don’t know the real volatility (and we never do, contrary to what portfolio-theory people say), it will result in a blowup. LTCM did exactly this: they over-leveraged their investments based on an incorrect model that suggested it was safe to do so and then they blew up when the market moved just a tiny bit more than their model predicted. Medium-risk investments are not always so, but we never know why, and when it turns out they weren’t, it’s too late and we go bust.
With risky assets, the above problem doesn’t exist: we can use small leverages because we know the occasional large moves will take care of moving the portfolio just enough.
Enter the barbell. I’ll stick to financial investments here but the same principle applies everywhere. While treasury bonds are clearly not 100% secure, they are as secure as we can have at the moment, so they will be our “safe” 90% of the portfolio and the remaining 10% will go to truly risky investments. Now, let’s imagine a 2-fold change in the value of the risky asset; there’s an equal probability for the same move up or down. If it moves down, we lose 5% of our value. If it moves up, we gain 10% of our value: this asymmetry is what the barbell is about.
Obviously, not many things double or half in value overnight, and even what does will do it rarely. So, the barbell strategy depends on as many small risky investments as possible, as the frequency of one of them go up enough would increase. (In Taleb’s original case, he sold options that he thought were overpriced and, from the profits, bought options that he thought were underpriced. If the market didn’t move, he made some money, if the market moved a bit, he lost some money, if the market moved a lot, he made a fortune.)
“Risky investment” doesn’t have to mean “dangerous” by the way. Your example of having a bunch of foreign friends is a perfect example for the barbell strategy: you invest a known and limited amount of your “capital” (a few minutes a week of your time) in exchange for a potential, though not guaranteed, upside of unknown magnitude.