Myron Scholes, Nobel Laureate and co-inventor of the massively influential Black-Scholes Option Pricing Model gave an interview about risk in the financial markets last week. Scholes was a principal in Long Term Capital Management, the hedge fund that lost more than $4 billion ((This estimated loss, reported in Wikipedia, is surely low, for it ignores the cost of dissolving the firm and the contagion of asset price declines with which the LTCM collapse was associated. If the estimate is correct, then LTCM has since been topped by Brian Hunter, a star natural gas trader working for Amaranth Advisors, who lost $5 billion in September, 2006. And to be fair, it is important to note that LTCM did not cause the market crisis in 1998—that honor goes to the Russian government that defaulted on its bonds. LTCM was the messenger, not the message, of grave risk.)) in 1998 and dissolved in 2000. The interviewer, Holman Jenkins, recorded Scholes’ response:
“He readily acknowledges that the episode was financially and personally embarrassing: “In life you pay tuition, right? Sometimes you pay too much tuition. Sometimes learning is costly.””
This is a profound comment, relevant to students, MBA applicants, recruiters, parents, and the business profession. It raises at least four questions:
**Why is learning costly? You can download a lot of data from the Internet for free—but downloading (or rote memorization) not learning. What’s worse is that some of that content is junk: wrong, biased, poorly edited, artlessly presented, and so on. Such learning is likely to make no positive difference in your life and effectiveness. You pay extra for quality. And you have to account for the alternative. Derek Bok, erstwhile President of Harvard University, liked to say, “If you think education is expensive, try ignorance.” A year at Darden (priced in terms of time, money, and foregone compensation), can seem expensive until one estimates the value it adds to the student and the cost of the alternative. Making mistakes in Darden’s case method classrooms is a much less costly way to learn than making them in business practice.
**When will I “get it?” Learning continues well after the tuition. Myron Scholes continues to reflect on risk in the financial system—by now is an expert of cosmic proportion. A reader once wrote to Ann Landers, the advice columnist, complaining of the consequences of some error in judgment. Landers replied, “That’s the trouble with life. You get the grade first and the lesson later.” At Darden, we find that a lot of learning takes place outside the classroom after the case discussion has ended—this is one of the main reasons why we usually do not tell our students what the decision-maker actually did in response to the case problem. We want students to ruminate, to continue to wrestle with the issues, and to learn to figure things out for themselves. (And sometimes, what the executive actually did is not a very good example, not the “right” course of action.)
**Isn’t the point to avoid learning through failure? Avoiding failure is nice. But failure may be the only way to learn some kinds of lessons. And after costly, even embarrassing, learning, you are more valuable than you were before. Thomas Watson, founder of IBM once called into his office an executive who had lost millions of dollars on a failed new product. The executive thought he was going to be fired. But Watson gave the executive a new assignment. When the executive expressed his astonishment, Watson said that IBM had paid for costly tuition and now wanted a return on its investment. Some venture capitalists refuse to back first-time entrepreneurs. They figure that they’ll let someone else pay the “tuition” of learning how to start businesses. If the person has the DnA of a real entrepreneur, he or she will come back several times to raise money and start businesses. It is in those later start-ups when the entrepreneur brings real wisdom to the task. Unlike many other cultures in the world, the U.S. business culture gives second (and third, fourth, fifth…) chances. It values the underdog, the comeback kid. Look at Myron Scholes and other alumni from LTCM: they are running hedge funds again and opining in the financial press. For all these reasons, our program at Darden lets students risk failure.
**Finally, have you learned enough relative to the risks you propose to take? The example of Myron Scholes suggests the humility we should bring to the learning enterprise. Scholes, the co-inventor of landmark tools and concepts, crashed spectacularly. As Alexander Pope said, “a little learning is a dangerous thing.” How much learning is enough? I have written elsewhere on this and will offer just one thought in reply: my years of experience as an educator and my studies of merger failures and financial crises suggest that large errors tend to emanate less from shallow depth (the failure to dig deeply into arcane technical matters) than from too-narrow breadth (the failure to ask fundamental questions, often borrowed from other perspectives and disciplines). This is a theme also advanced by others, such as Malcolm Gladwell (see my earlier posting, “Puzzles and Mysteries.”) For this reason a number of very successful investors are less inclined to back the aggressive specialist gunslingers than the thoughtful, wise, and experienced generalists. Similarly, Darden goes beyond simply arming its graduates with technical mastery: we strive to produce leaders and generalists who can ask the broad questions.