Blowing it up.

Photo: Department of Defense

How to Think for Yourself (and Beat the House)

Justin Fox is a Bloomberg View columnist. He was the editorial director of Harvard Business Review and wrote for Time, Fortune and American Banker. He is the author of “The Myth of the Rational Market.”
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Lots of boys go through a blowing-things-up phase in their early adolescence.  Ed Thorp’s was more explosive than most. The son of a security guard (his dad) and a Douglas Aircraft riveter (his mom) growing up in a working-class town near Los Angeles during and after World War II, at age 11 Thorp found a recipe for gunpowder in an old encyclopedia and began manufacturing it in large quantities, using it to power homemade rockets and rocket cars. One batch, he recalled, ignited while he was making it, “burning the skin of my entire left hand to a gray-black, brittle crust.” (It healed.)

Then it was on to guncotton, or nitrocellulose, which Thorp put in the family fridge with a “DON’T TOUCH” sign and then used to blow craters in the sidewalk, among other things. Finally, he of course had to experiment with what he called “the big one”: mixing himself a batch of nitroglycerin. After bundling up and putting on safety goggles, he moistened the tip of a glass tube with the substance and heated it over a gas flame. There was a sudden, loud crack and young Thorp (by this point he was 14) was left to survey the damage:

Tiny bits of glass were embedded in my hand and arm, blood seeping from the myriad holes. I picked the bits out with a needle over the next few days as I found them. Next I put some nitro on the sidewalk and used the sledgehammer to blow another crater.

After that, Thorp determined that “nitroglycerine’s dangerous instability worried me,” and he stopped playing with it. He lived on to study physics and then mathematics at the University of California at Los Angeles, teach math at several universities, figure out how to beat the house at blackjack, arrive at his own version of the Black-Scholes option pricing model a couple of years before Fischer Black and Myron Scholes did, and found the first quant hedge fund, Princeton/Newport Partners -- which over its 18-year life gave investors a 15-fold return (after fees) without a single down quarter.

While long a legend in blackjack circles and among investing cognoscenti, Thorp isn’t exactly a household name. He has gotten renewed attention in recent years thanks to books such as William Poundstone’s “Fortune’s Formula” and my own “The Myth of the Rational Market,” as well as frequent appearances in Wilmott, the very expensive magazine that all the rich quants read. Now he has written an autobiography, “A Man for All Markets,” from which the above anecdotes are taken. It’s pretty wonderful.

It’s wonderful in part because it’s so entertaining. The writing isn’t lyrical, and there’s not a lot of drama. But Thorp, now 84, has a fine memory and eye for detail -- and the details are remarkable. Our hero cooks up a way to win at roulette (involving the world’s first wearable computer) with his Massachusetts Institute of Technology colleague Claude Shannon, nowadays hailed as the “father of the information age.” He plays bridge with Warren Buffett, and he gets Buffett’s endorsement for his new hedge fund. He is asked by a client to look over Bernie Madoff’s investment performance and concludes -- in 1991! -- that Madoff is running a Ponzi scheme.

What sticks with me most, though, is not so much any particular story from the book but Thorp’s manner of thinking and doing, which is an inspiration in these confused times. Thorp thinks independently, without a lot of deference to received authority. But he seldom spouts off about anything. To him, ideas are meant to be tested -- even when the testing can be arduous or even a little dangerous.

One question that occurred to me as I read the book is what Thorp might have accomplished had he directed his smarts and persistence at problems other than how to beat the casinos or the market. John Authers of the Financial Times had a similar thought. Thorp’s response, from this week’s “Lunch With the FT”:

There are certain times in an industry when something is ready to happen. If you are there at the time, there’s a much higher chance that you will be involved.

Something was definitely ready to happen in the financial markets when Thorp launched his hedge fund in 1969. The increasing power of computers, the deregulation of brokerage commissions, and the rise of futures and options markets were all about to create huge new opportunities for an investor of an analytical and independent bent. You really can’t blame Ed Thorp for seizing them.

  1. I did!

  2. Log-rolling alert: He says something nice about my book in the endnotes to his book.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Justin Fox at justinfox@bloomberg.net

To contact the editor responsible for this story:
Brooke Sample at bsample1@bloomberg.net