VALUE: After Hours (S07 E37): Irreversible Losses Absorb Future Gains

During their recent episode, Taylor, Carlisle, and Luca Dell’Anna discussed Irreversible Losses Absorb Future Gains. Here’s an excerpt from the episode:

However, if you crunch the numbers, the real expected number of wins is only 0.64. And the reason why of this big difference, 2 versus 0.64, is survival, because if he breaks his leg in the first race, not only he loses that race, but he also loses all following ones. This is the importance of survival. It’s because irreversible losses absorb future gains. And this phenomenon is what we call ergodicity.

Basically, the definition is that when losses are not irreversible, you are in an ergodic environment, and you can extrapolate averages. But in the real world, all losses are irreversible, they all absorb future gains, and so you cannot extrapolate averages. And that’s the basic principle of ergodicity.

Jake: And that would then be non-ergodic for everybody.

Luca: Exactly. That would be non-ergodic. Yeah.

Tobias: I love the way you explain it. I also love the fact that book wasn’t written for a finance audience. But I think you’ve been embraced by the finance community who [Luca laughs] understands this idea. That’s been a powerful idea in finance.

Jake: I’m not sure they do understand it though, TC. I think it’s one of the least understood, but most important things that’s missed.

Tobias: I would say the finance community as a whole. There’s a cycle in finance where there’s a new crop of people who assault the shore, and wind up broken on the shore.

Jake: And make the mistake of ergodicity and then– [laughs]

You can find out more about the VALUE: After Hours Podcast here – VALUE: After Hours Podcast. You can also listen to the podcast on your favorite podcast platforms here:

VALUE: After Hours (S07 E37): Irreversible Losses Absorb Future Gains

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