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Jul 21, 2014

Nuggets of Wisdom from Risk Visualization Expert

I attended Sam Savage’s presentation based on his book The Flaw of Averages (PDF) not once, but twice. Although I have one solitary statistics course under my belt, I found Sam’s ideas quite accessible, and worth hearing a second time. Sam uses what he calls the five “mindles.” Like a handle that is used to physically grasp an object, a mindle helps us mentally grasp information.

A few nuggets of wisdom learned by this statistically obtuse observer:

1. Do not build a model to get the right answer. Build a model to get the right question.

2. Forget the terms you learned in statistics class. Random variable. Central Limit Theorem. Correlation. They won’t be useful in a singles bar and even those with statistical insight don’t understand them. He says that “The world is an uncertain place and we must understand the language to use it.” He translates the language into approachable lingo, also known as the mindles.

3. The five mindles. For a complete understanding of these, I definitely suggest going to hear Sam speak and reading his book.

a. Uncertainty vs. risk. Uncertainty is certain to exist. But risk is subjective.

b. Uncertain number. An uncertain number is a shape (called the distribution). But, so what? According to Sam, “If the world could start to use the word, it would be a different place. We might not have flown the economy into the side of a mountain.”

c. Combinations of uncertainties. Or, diversification.

d. Plans based on uncertainties. But, all plans are based on uncertainties so, just plans.

e. Interrelated uncertainties. Or co-variance, which is the basis of modern portfolio theory. And look where that got us.

4. The Levels of Stochastic Enlightenment. Want to work dumb? Say you don’t know the answer. Want to work dumber? Use a point estimate (which is an accepted accounting practice). Want to work smart or smarter? Simulate and do something. Using the JMP Profiler for interactive simulation, he shows how you can play with scenarios to identify the best case. The Profiler simulates “100,000 trials before your finger leaves the enter key. It’s a new paradigm for risk assessment,” he explains.

Sam puts it this way: Interactivity is important. To learn to ride a bike, you must interact with the handle bars, physically manipulating them to stay on course. JMP provides that interaction (via mindles) to mentally manipulate your projects or issues to stay on course. However, about 50 million people base decisions for course of action on averages. Can all of those people really be wrong? Sam says yes. And JMP can demonstrate why.