Option value or valuing having options?

T: Should I keep enough capital here so I could come back?

J: No. The option is of negative value.

- I thought options were always of positive value?

- No, not on a creative path.

— Jim Collins on Tim Ferriss

In finance, option value is a concept that points to problematise the amount of your total capital that you are invested with. That is, do you have options to take other actions, and what’s that option worth to you?

In the interview with Jim Collins, Ferriss asks him what the option value of having a buffer in different scenarios is. Most commonly, a buffer is of quite high value. Most people value financial security an important part of their finances.

The problem is, with the security, there’s a risk of becoming more risk averse than we’d like to be.

There’s another quote that I want to bring up, from NN Taleb:

“Mild success can be explainable by skills and labor. Wild success is attributable to variance.”

The variance only comes in situations where you take risk. That is, what got you to where you are, was taking risk. And if you want to go further, you’re going to have to keep taking risk. In those cases, the option value of having a big, secure buffer isn’t very high.

Look at it this way. You’re trying to quit a substance or a habit, say eating candy every now and again. A lot of us would try to have some candy at home in case we get a crazy craving. The much more reasonable approach is to rinse all of the candy out of your home. That way, if you have one of those crazy cravings, you won’t be able to have any candy.

What Collins is on to in the conversation turns out quite interesting to me, because it seems options aren’t always of positive value at all. In finance, most people would do good with not having the option to sell their stocks, at least when times are tough.

Options are known to pacify us, at least when there’s a lot of them. Therefore, on any creative path, there are two things you need to do in order to maximise the option value:

Limit the options of going back.

Starve yourself of resources.

That is, in order to have the maximum option value, you need to limit the number of options.