“Step right up and try your luck…spin the wheel and watch where she lands…everybody’s a winner” – sometimes if you listen hard enough you can almost hear the Carney coaxing unwary investors to “step up and try their luck” in a game that in many ways have become rigged against them. During the last three decades, it has been amazing to watch the transformation of Wall Street from a place where individuals actually invested to a “casino” where institutions controlled the outcomes through high-speed automation, algorithms, and liquidity.
But nonetheless, individuals continue to stroll through the doors of the “Casino Wall Street” to try their luck by betting “against the house” for a dream of riches. However, just as anyone who has been to Vegas knows, you do indeed win sometimes; but the “house” wins most of the time.
However, “professional gamblers” can succeed at playing the odds in both Vegas and on Wall Street. Why? Because they understand “risk” in its various forms.
While most amateurs will bet on most hands, take speculative positions where the odds of success are stacked against them or try to bluff their way through a losing hand; professionals play with a cold, calculated and unemotional discipline. The professional gambler understands the odds of success of every play and measures his “bets” accordingly. He knows when to be “all in” and when to “fold and walk away.”
Do they succeed all the time – of course not. However, by understanding how to limit losses they survive long enough to come out a winner over time.
10 Lessons Learned From Poker
1) You need an edge
As Peter Lynch once stated:
“Investing without research is like playing stud poker and never looking at the cards.”
He’s absolutely right. There is a clear parallel between how successful poker players operate and those who are generally less sober, more emotional, and less expert. The financial markets are nothing more than a very large poker table where your job is to take advantage of those who allow emotions to drive their decisions and those who “bet recklessly” based on “hope” and “intuition.”
2) Develop an expertise in more than one area
The difference between winning occasionally and winning consistently in the financial markets is to be able to adapt to the changing market environments. There is no one investment style that is in favor every single year – which is why those that chase last years performing mutual funds are generally the least successful investors over a 10 and 20 year period.
Flexibility is the cornerstone of long-term investing success and investors that are unwilling to adapt and change are doomed to extinction – much like the dinosaur. Having a methodology that adapts to changing market environments will separate you from weak players and allow you to capitalize on their mistakes.
As the great Wayne Gretzky once said:
“I skate where the puck is going to be, not where it has been.”
3) Figure out why people are betting against you.
“We know nothing for certain.” We know what a company’s business is today, maybe even what they are most likely to do in the coming months. We can determine whether the price of its stock is trending higher or lower. But in the grand scheme of things, we don’t know much. In fact, we are closer to knowing nothing than to knowing everything, so let’s just round down and be done with it.
All we really know is what “IS,” and all we can really do is create and implement a plan that will deal with what “IS” and protect us from what “Might Be”.
Managing a portfolio for “what we don’t know” is the hardest part of investing. With stocks, we have to always remember that there is always someone on the other side of the trade. Every time some fund manager on television encourages you to “buy,” someone else has to be willing to sell those shares to you. Why are they selling? What do they know that you don’t?
In poker, you may hold a couple of “aces” in your hand and believe now is the time to be “all in.” However, the player sitting across from you continues to match your bets. In poker, this is called “checking,” in investing it is called “hedging.” Both are simply forms of managing the “risk” of “not knowing what you do not know.”
Don’t assume you are the smartest person at the table. When an investment meets your objectives, be willing to take some profits. When it begins to break down, hedge the risk. When your reasons for buying have changed, be willing call it a day and walk away from the table.
4) When you have the best of it – make the most of it.
In a game of “Texas Hold’um” when the right hand comes along you can be “all in” and bet it all. The risk with this, of course, is that if another player “calls” you and you lose – you’re busted.
In investing when you have the right set of environmental ingredients in your favor such as an extremely oversold market condition, panic and fear from investors, deep discounts in valuations, etc., these are times to invest more heavily into equities as the “risk” of loss is mitigated by the “strong hand” you are holding.
The single biggest mistake that investors repeatedly make is continuing to be “all in” on every hand regardless of market conditions. “Risk” is a function of how much money you will lose “when”, not “if”, you are wrong.
5) It often pays to pass, and 6) Know when to quit and cash in your chips
Kenny Rogers summed this up best:
“If you’re gonna play the game, boy…You gotta learn to play it right – You’ve got to know when to hold ’em. Know when to fold ’em. Know when to walk away. Know when to run. You never count your money when you’re sittin’ at the table. There’ll be time enough for countin’ when the dealin’s done.
Now every gambler knows the secret to survivin’ – Is knowin’ what to throw away and knowin’ what to keep. ‘Cause every hand’s a winner and every hand’s a loser and the best you can hope for is to die in the sleep”.
This is the hardest thing for individuals to do. Your portfolio is your “hand” and there are times that you have to get rid of bad cards (losing positions) and replace them with hopefully better ones. However, even that may not be enough. There are times that things are just working against you in general and it is time to walk away from the table.
Using some measure of risk management in your portfolio is critical to long-term success. Due to emotional biases most investors wind up doing the exact opposite of what they should do:
- They sell when they should buy and vice versa,
- They hold onto losing positions hoping they will come back,
- They double down on losing positions,
- They sell winning positions too soon, and;
- They refuse to admit they are wrong.
These mistakes, and many more, are entirely driven by emotion rather than logic. Emotional players ALWAYS lose in gambling and investing.
The error that most investors make is that they are playing poker without a hand of cards. Since most investors buy investments, because of what they read in a newspaper, saw on television or heard about on the radio, they have effectively “anted” up for the game. They then basically walk away from the table and begin to hope that the hand they were dealt is the winning hand – this is the basis of the “buy & hold” strategy.
All great investors develop a risk management philosophy (a sell discipline) and combining that with a set of tools to implement that strategy. This increases the odds of success by removing the emotional biases that interfere with investment decisions. Just as a professional poker player is disciplined with his craft, a disciplined strategy allows for the successful navigation of a fluid investment landscape. A disciplined strategy no only tells you when you to “make a bet,” but also when to “walk away.”
7) Know your strengths AND your weaknesses & 8) When you can’t focus 100% on the task at hand – take a break.
Two-time World Series of Poker winner Doyle Brunson joked a bit about his book with which he had thrown around two alternative ideas for titles before going with “Super/System“. The first was “How I made over $1,000,000 Playing Poker,” and the second equally accurate idea was, “How I lost over $1,000,000 playing Golf.“
The larger point here is that invariably there will be things in life that you are good at, and there are things you are much better off paying someone else to do.
Many investors believe they can manage money effectively on their own – and they are likely right as long as they are in a cyclical bull market. Of course, this idea is equivalent to being the only person seated at a poker table and the dealer deals all the cards face up. You might still lose a hand every now and then, but most likely you are going to win.
I would love to be a graphic artist, but until pie charts and analytical tables come into vogue as contemporary art it is unlikely I will be able to fund my retirement by doing it. However, just because my emotions tell me I want to be an artist doesn’t mean that I will be good at it. So, for the time being, I will leave it to others that have a penchant for paint. (But if you happen to be interested in a pie chart for your living room, let me know…)
Emotion causes us to attach significance to things that have little influence on whether a trade works out or not. Emotions have a nasty habit of overriding logical thought processes that lead ultimately to poor decision making.
Tom Dorsey once wrote;
“Consider this, if someone offered to flip a coin for you and offers you a better payout on heads than tails, the only logical bet would be on heads. So there is only one decision, logically, but emotion may cause you to remember that the last time you took heads was in the 1958 NFL Championship game at Yankee stadium. You were with the Giants and called for heads in the overtime session, losing not only the coin toss, but also the game, eventually, to Johnny Unitas and the Colts.
That decision may be one you will remember for the rest of your life, but it isn’t one that will have any impact on the bet at hand. Nonetheless, we are all human and all susceptible to these types of thoughts, just some more than others.”
That is why there are so few successful poker players in the world but so many people willing to fund the Las Vegas strip. Most people are more than willing to take a risk with their money in the hopes of hitting the jackpot, the dream of being rich has been embedded in us since birth, however, very few investors have any idea of the “possibilities” of success versus the overwhelming “probabilities” of failure. Therefore, as in my case, I can’t paint, therefore, I understand that there is a huge probability that I will not be successful as an artist versus the slim hope (possibility) that people will flock to my door wanting 8 ½ X 11 framed pie charts. (Readily available at this website)
If you are not successful at managing your money over the long term you will wind up losing money, which is why roughly 80% of all investors do. It is better to be honest with yourself and begin an approach to increase your probabilities of success. In a blink of an eye a professional can read the table and make a determination as to whether it’s time to “hold’em” or “fold’em,” can you?
9) Be patient
Patience is hard. Most investors want immediate gratification when they make an investment. However, real investments can take years to produce their real results, sometimes, even decades. More importantly, as with playing poker, you are not going to win every hand and there are going to be times that nothing seems to be “going your way”.
No investment discipline works ALL of the time. However, it is sticking with your discipline and remaining patient, provided it is a sound discipline to start with, that will ultimately lead to long-term success.
I remember in the late 1990’s the media equated investing with Warren Buffet to driving “Dad’s old Pontiac” since Warren didn’t embrace new technology. He didn’t embrace new technology because he didn’t understand and valuations on those companies made no sense to him. He stuck with his discipline even though he was lagging the market. Eventually, his discipline paid off because it was sound and he was patient enough to allow it to work for him over time. Oh, and those that chastised him were crushed in the ensuing “bear market.”
10) Examine your motivation for playing.
Why are you trying to manage your own money? Is it that you love doing it? Is it the “thrill of the chase and the agony of defeat” syndrome? Or, did you just think that is what you are supposed to do?
These are fair questions that you have probably been asked before. However, the real question that you need to ask yourself is “Am I successful at managing the future of my family and my retirement?”
“To a real player, gambling is only a certain part of what happens at casinos or at the track. Gamblers (or average investors) are people who either don’t know what they are doing, or like to bet against the odds.
Good poker players (and good investment advisors), like good horse players, search for value. They leverage advantage. They look for small truths and they hope other people (competitors) don’t notice. They manage risk, and expect rewards for playing well. They like the sport. They like knowing. Call these people craftsmen. Don’t call them gamblers.”
Lance Roberts is a Chief Portfolio Strategist/Economist for Clarity Financial. He is also the host of “The Lance Roberts Show” and Chief Editor of the “Real Investment Advice” website and author of “Real Investment Daily” blog and “Real Investment Report“. Follow Lance on Facebook, Twitter and Linked-In