Nassim Nicholas Taleb, the author of The Black Swan, Fooled by Randomness, and Antifragile, popularized a term that's both crucial to understand and often misunderstood: Ergodicity.
What the fuck is Ergodicity you may ask. And why does it matter?
Well, we love averages. They simplify things, whether it's investment returns, business performance, or even health outcomes. But there's a hidden problem: not all averages tell the whole story.
Enter ergodicity—a big word with a simple, crucial message.
At its core, ergodicity asks: Does the average outcome for a group (= ensemble average) predict what will happen to an individual over time (= time-series average)?
If the answer is yes, the system is ergodic. If not, it's non-ergodic. And that's where things get interesting.
Ergodicity Explained
Let’s define two fundamentally different types of averages so many (professionals) don’t understand.
- Ensemble Average: The average outcome for a group at a single point in time.
- Example: Imagine 100 people each investing $100 in a risky venture that has an 80% chance to double their money and a 20% chance to lose it all. Most will win big; some will lose everything. Add up all their results and divide by 100—that's the ensemble average.
- Time-Series Average: The average outcome for an individual over a period of time.
- Example: You invest $100 in that same risky venture every day for 100 days. You might double your money multiple times, but eventually, you will lose it all when the venture fails. Your time-series average? Zero.
That’s a non-ergodic situation.
Real-World Examples of Non-Ergodicity
- Business: On average, a new product succeeds 60% of the time. But if your company launches a few products that fail in a row, that above-50% success rate doesn't help—you might go out of business.
- Health: A workout routine may show average improvements across a group. However, if you push yourself too hard and get injured, your personal long-term fitness suffers despite the group's positive results.
- Insurance: On average, people might pay more in insurance premiums than they receive in claims. But if you're the unlucky one who faces a significant accident, being uninsured could be financially devastating, regardless of the group's average experience.
The Danger of Ruin
The concept of "ruin" means a loss from which you can't recover.
- For Individuals: Losing all your money, severe health issues, or irreversible damage.
- For Businesses: Bankruptcy, loss of reputation, or legal troubles.
- For Society: Environmental disasters, economic collapses, or large-scale conflicts.
In non-ergodic situations, the risk of ruin makes traditional cost-benefit analysis useless because the potential loss is infinite or irreversible.
The Takeaway
Ergodicity teaches us a vital lesson:
The group's average outcome doesn't guarantee your success over time.
Life isn't as straightforward as averages make it seem. By understanding the difference between ensemble and time-series averages, we can make smarter choices and avoid potential pitfalls.
Remember, what's beneficial or safe for the group might not be for you as an individual over time. Always consider how decisions will affect you in the long run, not just how they affect everyone else right now.
Here are 3 other concepts you might benefit from: