Book review: The Misbehavior of Markets: A Fractal View of Risk, Ruin & Reward by Benoit Mandelbrot.
Mandelbrot describes some problems with financial models that are designed to provide approximations of things that can’t be perfectly modeled. He pretends that pointing out the dangers of relying too much on imperfect approximations shows some brilliant insight. But mostly he’s just translating ideas that are understood by many experts into language that can be understood by laymen who are unlikely to get much value out of studying those ideas.
His list of “ten heresies” is arrogantly misnamed. Sure, there are some prestigious people whose overconfidence in financial models leads them to beliefs that are different from his “heresies”, but those “heresies” are closer to orthodoxies than they are to heresies.
His denial of the equity premium puzzle is fairly heretical, but his argument there is fairly cryptic, and relies on suspicious and poorly specified claims about risk.
He says market timing works, but the strategy he vaguely hints at requires faster reaction times than are likely to be achieved by the kind of investor this book seems aimed at.
His use of fractals doesn’t have any apparent value.
Mandelbrot is primarily a mathematician with limited interest in understanding how markets work. One clear example is his mention of a time when Magellan “was still a small fund, too small for any detractors to argue that its size alone gave it a competitive edge”. Any informed person should know that’s completely backward – larger funds have a clear disadvantage because they are limited to trading the most liquid investments.
Another example of a careless mistake is when he claims the evidence suggests basketball players have hot streaks, seemingly unaware that Tversky and others have largely debunked that idea.