Odds Not Fixed Make Things Worse.
 

The main difference I see between casino games and business or the stock market is that the latter two do not have fixed odds -- they depend somewhat on your skill, experience, knowledge, as well as luck.
---Thomas Rice

Thomas,

Thank you for replying to my crazy question.

Let me be even more stupid with you:

From my stupid perspective the fact that the business/market odds are NOT fixed only make things WORSE for the market player/business owner.

Just imagine throwing dice and suddenly it's weight, shape, the characteristics of the table are changed in the process.
Just imagine plying cards that change on you because of the weather, irrational character or bad news from China.

Virtually unlimited number of factors when you play an INDIVIDUAL stock make things worse than 'casino' activity with limited number of factors...

All In
 

Casino games have odds. These odds are known. These odds do not change with the game. These odds are stacked - however slightly - in the casino's favour.

YOU, as an individual, might WIN, sometimes. BUT, of the total money spent over the course of an hour/day/week/month/year... the casino is the one who ends up with the most money.

NOTHING you do - play more and thus get experience, develop a system, keep track of and monitor past results, and so on - will change those odds.

IF there is a game where you can develop a set of skills and "beat the house" then the casino has a rule that says you are not allowed to use that skill. If you ignore their rule they ban you from playing. The casino wins in the end again.

There is an accepted truth that: four in five business will fail within five years - and - of those remaining businesses, four in five of them will fail over the next five years. In other words... over the course of ten years, only one in ten business will not fail.

Is this an accurate "truth"? How is this calculated? By the number of business that register and then the number that continue to pay their yearly registration fees?

If so, that is a misguided way to know whether a business failed. Maybe the business owner moved onto other things. Maybe they sold their business and the new owner decided to operate it under their own existing business name. Maybe the business owner forgot to re-register their business. Maybe the business never got started after it was registered because circumstances change. Maybe the business owner started a few businesses and decided to keep the most profitable and just shut the others down - even though they were profitable.

I look at all the businesses which advertise in my local newspaper. I don't see a 20% or even 10% per year drop off of existing businesses and new businesses jumping in. I see the same businesses advertising year after year after year.

I walk through my local shopping mall. I see some businesses come and go. But still nothing like the "failure" rate accepted as "truth." And besides... when the business goes I don't know if it is closing down for good or simply moving somewhere else. Some businesses do not put "moving to such and such" on their windows. While other businesses have "closing down" sales only to have "opening sales" a month later in the shop around the corner, or even the same shop!

The Direct Marketing Association is supposed to have claimed only one in one hundred thousand mailorder businesses survive/succeed. If true, are these "failures" included in the other "one in ten over ten years" claim? And what is meant by succeed?

All I'm saying is, the claimed failure rates don't really mean much without knowing how they are arrived at.

So how is business better than a casino?

First, you can win with the accepted failure rate. Just open ten businesses and one will survive - in theory.

Ben Suarez says one in seven mailorder products fail. And you might have to lose fourteen times before discovering your two successes. But when you do they will overshadow all the loses.

So even with odds of one to seven against you can still win. Eventually.

In the casino you can never come out in front eventually. Because nothing about the odds changes. And you can't do anything to change them. There is no "learning from past mistakes" with the casino.

For every business success you can show a casino/lottery success? Fine. How do those numbers rate when worked out on a per-capita basis?

For every ten million people who play the lotto, one wins. If the claimed business failure rate is applied to that ten million number then you will have one million successful and surviving businesses. One from lotto and one million from business.

Clearly, the random odds of succeeding are still with the business owner.

But business has changing odds. Things that mean times are good and times are bad - for the business - based on a myriad of reasons...

Weather - bad weather might keep people at home. Fewer people shopping means less sales.

Newspaper story - stories can cause people to want to buy certain items or to impose personal bans on certain items. Such as the boycott of French goods for the French government's recalcitrant ways over Iraq.

Wrong words in ads - using words like "collapse" in an ad shortly after 9/11 could have caused a decline in sales.

Changing market - sell lime green items and recent sales will have been good. But as the market's taste for color changes to pink, you will not sell as many of your lime green widgets. If you do nothing - and don't start making pink widgets - your business may suffer greatly.

Seasons - baseball season, hocket season, cricket season, etc. Interest increases when it's the "season" for that item. Halloween. Christmas. Easter. Fourth July. And so on.

Mood - people may go out more or stay home more depending on their mood. Feeling insecure caused more people to spend more time at home after 9/11. Video rentals increased. Live entertainment dropped off.

None of these things effect your ability to lose in the casino. But they do effect how profitable your business is. To stay profitable you need to be aware of as many of the things that influence your business as you can be, and make adjustments to your business accordingly.

The odds in business may change. But it is only truly dangerous if you do nothing about it.

As far as the stock market goes. Success, from my understanding of it, is more dependant on your investment approach.

Buy and sell (trading, day trading) is high risk and as about as guaranteed as placing bets at the casino. - Despite all the charting available.

Buy and hold is lower risk and requires analysis skills. Lack those skills and you might as well play a game at the casino.

Buy and hold index funds is also lower risk and doesn't require analysis skills. It also assumes the index will continue to rise as it has done previously.

If I had to choose between investing $5,000 in the stockmarket (even in an index fund) or using it to increase business, I would use it to increase business. What I then do with the increased profits is the topic of another discussion.

Thanks for your thought-provoking question(s).

Michael Ross


Brain food

Michael - what were...
 

...the stock boards you go to? (If you don't mind sharing and have since forgotten some of the jokes I've made at your expense).

-Anon

> Don't see anyone asking such basic questions
> on stock market boards? Don't see people
> saying, "XYZ shares went up 1 cent
> today after falling $25 over the last two
> months, should I buy them now?" (At
> least not on the stock boards I go to.)

Re: Odds Not Fixed Make Things Worse.
 

> From my stupid perspective the fact that the
> business/market odds are NOT fixed only make
> things WORSE for the market player/business
> owner.

I think it depends on what the odds are in each situation, though. With a casino, chances are over long periods of time you will lose money and there is nothing you can do to alter it.

With the market, chances are over long periods of time you will make money, even if you have no idea what you are doing, provided you diversify significantly.

Because the odds are variable in markets, there's opportunity there for people to add value in their investment decisions, whereas this is not the case with casino games for the most part.

>Just imagine throwing dice and suddenly it's
>weight, shape, the characteristics of the table
>are changed in the process.

Another way to look at this is to say that how predictable stocks are versus casino games is less. I'd say I'd agree with this, but focusing on this is only half the story. Apart from predictability you need to focus on average or expected returns.

For casino games, the results are fairly predictable -- your returns will be negative.

For the market, the results are more variable and less predictable, but you would expect your returns to be positive. Especially if you look over longer time periods and diversify.

>Just imagine plying cards that change on you
>because of the weather, irrational character or
>bad news from China.

>Virtually unlimited number of factors when you
>play an INDIVIDUAL stock make things worse
>than 'casino' activity with limited number of
>factors...

This is also a decent point -- there are a tremendous amount of factors that can alter the value of a stock. Weather can affect a lot of agricultural stocks and related industries, and news in China can affect a whole host of companies that have business there or deal with China, or their related industries.

With that in mind, I'd say if someone is not very familiar with a stock, they shouldn't invest in it alone but should get a balanced portfolio so mitigate those stock-specific risks somewhat.

Dien mentioned in a previous post that Buffett looks for predictable businesses to reduce those risks. I'd agree that that is one of the essential parts of his approach.

Basically the concept is, not all stocks or businesses are the same, and they differ in how predictable they are. To give an example, Coca Cola makes Coke and other drinks and sells it around the world. It has been doing it for a long time. They will most likely still be doing it in 2, 5, and 10 years time. I would say that they are more predictable than a start-up IT company developing a product it hasn't sold yet and hasn't tested yet.

So if you want to look at individual stocks, it is possible to try to look at stocks where you have an idea of all the major factors that can affect it, and where there are uncertainties and random elements -- like the impact on foreign exchange on a company is a common one -- you can at least be aware of what those random factors are and take them into account in your valuation. :)

Re: All In
 

Good post Michael! Just thought I'd comment on the following:

> Buy and sell (trading, day trading) is high
> risk and as about as guaranteed as placing
> bets at the casino. - Despite all the
> charting available.

> Buy and hold is lower risk and requires
> analysis skills. Lack those skills and you
> might as well play a game at the casino.

> Buy and hold index funds is also lower risk
> and doesn't require analysis skills. It also
> assumes the index will continue to rise as
> it has done previously.

I agree that day trading is high risk. Essentially when you invest in the market your total return is determined by the following:

1. The investment return for the investments you hold over the time you hold it
2. The transaction costs you incur
3. The taxes you pay

If you add no value as a day-trader, and you add no value as a buy-and-hold investor, then you'd expect the average return on the first point -- investment return -- would be roughly the same.

The key difference arises with the second and third points. Transaction costs -- namely, brokerage fees and so forth -- are significantly higher for traders than they are for buy-and-hold investors, and these commissions eat into the profit for traders.

With taxes, at least in Australia a buy-and-hold investor typically pays capital gains tax which is half the rate of the normal tax rate that traders would pay. This too has a significant effect on long-term profitability.

Before you think taxes are insignificant, let me illustrate with this example based on Australian taxes. If you used other countries, it might not be as extreme.

In Australia, the highest tax rate for people with high incomes is 50%. If you hold stock for over a year before you sell it you tax it at half the rate, or roughly 25%.

If an investor invests $10,000 for 10 years at 10%, they'll have $26,000 at the end, pay $4,000 in tax, and have just under $22,000 left over.

For a trader to achieve the same $22,000, but paying tax each year rather than at the end and at a higher 50% rate, they'd need to achieve a return of 16%. That's a big difference, and it doesn't even include the transaction cost effect yet.

> If I had to choose between investing $5,000
> in the stockmarket (even in an index fund)
> or using it to increase business, I would
> use it to increase business. What I then do
> with the increased profits is the topic of
> another discussion.

The stock market is essentially a passive investment. For the most part it's priced about right to give investors a modest return on their capital.

When you run a business, you'll have internal investment opportunities that may return much greater returns, and better yet, are exclusive to you to take advantage of. Thus, in many cases investing in internal projects is the way to go.

Stocks are mainly interesting, in my opinion, because the skills used to analyse or value stocks are the same used to analyse or value internal business investment opportunities.

- Thomas.

Re: Old Father Time
 

> Can't comment on the number of books
> written... only the number of books
> published.

I don't think that is relevant--surely how many books are being bought is what is important.
That being so, then Amazon would show you that Real Estate books are selling more than Share Market books.

Bill Myers, surely the master of the crystal ball, reported a while ago that Real Estate was in 6 of the top 10 sellers on Amazon.
That means people are buying books and are interested in Real Estate.

> As they are publishing more stock market
> books, it would appear stock market books
> outsell real estate books.

Don't agree.
Check on Amazon.
You are assuming this.

> Because of the media.

???

> When was the last time you heard the mass
> media mention anything about any kind of
> instant wealth due to property?

Or shares?
Surely most understand that shares and real Estate take several years before compounding steps in?

> People know property is a buy and hold
> thing. They want it to be faster and cost
> less.

I think most people realise shares is buy and hold too.

In Sydney it is buy and hold not too long!
The Real Estate is growing beyond belief.
In 10 years time the medium house price will be close to a million dollars.

But with all the wealth creation seminars (check out the latest Wealth Creator magazine) most people are starting to realise that borrowing 100% on your properties equity and using leverage will make you rich faster than most other ways.

In shares, the bank has the option of forcing you to sell if the price drops beyond a certain point etc.

>Enter the "No Money Down" idea.
> Enter the "Subject-To" and
> "Lease Option." Enter
> "Wholesaling." Satisfies the
> instant gratification crowd.

The No money down bit means you can borrow 100% for maximum leverage. Not instant wealth.

> Something a lot of the RE sellers mention is
> their dislike of fixing toilets. And so they
> hire a property manager.

> This has always puzzled me. If your toilet
> is broken, call a plumber - that's what the
> property manager does.

Maybe they need a tax break and want to claim more losses aka Fringe benefits tax.

> Anyway. The difference is: stocks take far
> less cash, is quicker and easier to get
> into, involves zero negotiating, and doesn't
> require any bank red tape.

But banks will lend you 100% of costs for a property, without telling you to sell it if it drops below a certain price as with shares.

> Property, on the other hand, requires money
> (if not yours than someone else's), time,
> bank red tape, title companies and/or
> settlement people, negotiating, time, money
> spent on advertising, credit checks,
> employer checks, did I mention time?
> Research, education and learning, time, and
> sometimes real estate agents.

> Negotiating. Bank red tape. Real estate
> agents. SLOW turnaround. Long Time. Money.
> Everything people hate. That's what real
> estate investing means.

All of this is infinitely easier for the pleb in the street to handle than buying shares--because everyone knows that they dont make land anymore.
We all know real estate goes up....a simple supply and demand thing. Most people do not have a clue how the share market works and consider it to be a thing shrouded in mystery.

About 70% of the poulation in Australia own a house, compared to the 40% odd percent that own shares.

> Go to the discussion boards devoted to each
> topic - real estate vs stocks. See the
> million real estate questions... here is a
> house and they sellers want $350k, it has
> zero equity, will rent for half the mortgage
> payment and is about to go into
> forclosure... how can I buy it? Or, is there
> a deal here? Or, I have bought it subject-to
> now what do I do?

All this proves is that there is room for a product to simplify the process.
This is a basic product creation enviroment.

> Basic hand holding questions. Questions of
> people looking for an easy way. Questions
> from people who can't be bothered reading
> archives or spending a few bucks on a real
> estate book.

Hence the videos/DVD's /seminars on wealth creation to cut thru all that mumbo jumbo and MAKE IT EASY.

> Don't see anyone asking such basic questions
> on stock market boards? Don't see people
> saying, "XYZ shares went up 1 cent
> today after falling $25 over the last two
> months, should I buy them now?" (At
> least not on the stock boards I go to.)

That should be a clue not to create a shares made simple product then.

> It's the same reason why in stock market
> investing, the main thrust... the main way
> people want to invest their money... is in
> quick turn stuff. They can see the success
> that long term Buffett-style stock market
> investing has... they even hear the stories
> of the traders who go $100k in the hole in
> one day... but the lure of the quick and
> easy overshadows all of that. Just like the
> lure of the quick and easy - subject-to,
> wholesaling, lease/option, no money down -
> oversadows the 25% down thus creating a
> positive cashflow, the book you mentioned
> talks about (I beleive that's its basic
> concept. Please correct me if I am wrong).

I don't agree with you.
I don't think most people think you can get rich overnight with shares.
That is why much more people buy real estate--look at the figures.

> And the final reason... which would
> certainly apply to some people... is one of
> stigma. Being a landlord vs being a stock
> market investor.
I have never heard this before.
I bought my first property in 1990 without having a clue.
Now I have several properties worth well over $1 million. Only in the last 2 years have I realised what I should have been doing.
Real Estate has always been the easiest way for the average person to create substantial wealth.

Tom B.

casino's, shares and more
 

Just wanted to mention a few things about casino's--

It has been stated that odds don't change-
In blackjack they most definitely DO chage from hand to hand, depending on what cards are depleted.

The key is to know when the edge changes.
That is what card counting is all about.
It has been known from 1961 and was published by Professor Edward Thorpe in a book called Beat the Dealer.

There are many professional syndicates travelling around the world playing Blackjack fulltime, and it is well documented.

One of the most successful teams of all time was with Ken Uston--the Vice President of the San Francisco Stock Exchange in the 70's.

He chucked his job in after being taught by a high school drop out how to count cards. His 4.5 million dollars won in the 70's is documented in his book Million Dollar Blackjack. A film was made of his activities called the Big Player.

In roulette, there have been professional syndicates documented from the 1890'2 looking and playing biased roulette wheels.

Even jupiters casino on the Gold Coast has had biased wheel play against it.

Russell Barnhart has a fantasic book on the exploits of biased wheels in Beating the Wheel
and lists all the syndicates over the last hundred years that made a lot of money playing against biases.

Computers are also being used to predict the segment the ball will descend on....sort of like the orbiting descending formula's of Nasa.

Recently a Hungarian syndicate was expelled from the Sydney casino for computer play.

The first successful computers were used in the States by university physics students and is documented in The Eudaemonic Pie.

Poker is another game when the odds are changing depending on what has been played, and even linked poker machines/slot machines can give you an edge if the payout exceeds the odds as they can do if they are linked in a bank.

There are many ways to get an edge, and I havent revealed the mah jong syndicates that forced the Vegas casino's to stop offering the game.

Profit in uncertainty depends on odds AND payout.
Vaying either can provide a profitable situation if you know what you are looking for.

Going back to share markets--
I notice the best seller A Random Walk Down Wall Street by Burton Malkiel has been reprinted and is available in bookshops at the moment.
The premise is that a blindfolded monkey throwing darts could pick a portfolio that would make the same as an expert fund because the stock market abides by the random walk scenario in statistics.

And in fact, the mass consesus of the public so closely prices a share correctly, that the experts cannot consistantly outperform the public.

The updated book shows that if you had bought shares in an INDEX FUND and held them, you would outperform by 50% most traders.
That is why indexed funds have become so popular--a basket of shares in the Dow or All Ordinaries or whatever is the norm in your country--outperforms virtually any other fund over the long term.
In other words, it is incredibly difficult to out perform the public.

This is a brilliant book and I highly recommend it.

The term used is an efficient /semi efficient market, and it states that most of the information is contained in the price.
This is also the case in horse racing.

In any country in the world, the probability of the horse winning is fairly accurately determined in its price. A 2-1 will win roughly that anywhere in the world, and has done that even 100 years ago.
In fact, many studies show the similarity of semi efficient markets of horse racing and shares.

Professor Ziemba http://www.interchange.ubc.ca/ziemba/
has written quite a few papers on this.

So I think it's fair to say, that for some people, there is always an edge if you can see it.
But it depends on price AND odds to give the Expected Value (ROI).

Cheers

Tom

It's all about context
 

Tom:

My post was written as a response - an answer - to a question which was asked. Everything in it must be read with that context in mind. Okay?

Now let me address some of your points...

70% real estate ownership in Australia...

First, this number is actually a number which combines those who OWN with those who are PAYING OFF. It has been this way for something like 50 years.

Please don't confuse this - owning or paying off a house - with investing in real estate to make money. 70% of the people in Australia do not own investment property. If 30% of the people rent, and something like 90% of people with investment proprety only own one investment property, you cannot come up with 70% of the people owning investment property.

If we accept your number that 40% own shares... and shares are viewed as investment (after all, you cannot live in shares), then percentage wise, more people own shares as investments than own property as investments.

As for the other items... again. My post is to be read in the context of it answering a question.

Landlord vs Stock Investor could be a reason. Is it? Who knows? I'm sure there is someone somewhere who feels that way.

Fixing toilets. I was refering to the statement made by the likes of Robert Kiyosaki who say people tell him they don't want to invest in real estate because they don't like fixing toilets, and Robert tells them he doesn't either so hires a property manager. Again. You need to read my post within the context it was written.

My mention of the Creative RE techniques finished with instant gratification. Not instant wealth. There is a difference. Bank red tape and all those other things delay gratification.

Some banks may lend 100% of the value of the property when you play funny games with the sales prices and the like... but only the stock market allows you to invest ten times the amount of money you have. - Which means a loss will see you totally in the hole.

"Real Estate has always been the easiest way for the average person to create substantial wealth"

Agreed!

Michael Ross

P.S. Where abouts in Sydney are you based?

Re: casino's, shares and more
 

Ok, I will agree that odds do change in casino games. However, it still remains that overall the odds are against you, and things you can do to change this (using computers, card counting, etc) are banned in casinos. :)

It is true that payout and odds are both important, and thus odds can be in your favour from time to time (like with slot payouts), but I think it's fair that over time people lose money at casinos.

> The updated book shows that if you had
> bought shares in an INDEX FUND and held
> them, you would outperform by 50% most
> traders.

Yes, this is true, and I'd say it comes down to those additional costs traders have versus an index fund mentioned in my previous post. The one I forgot to mention is investment manager fees when you invest with a managed fund.

Index funds work on the premise that markets are efficient and managers don't add value, thus to maximise return you minimize fees by buying the index.

My opinion is that most fund managers do not add value, so it's important to find the few who do. :)

> The term used is an efficient /semi
> efficient market, and it states that most of
> the information is contained in the price.
> This is also the case in horse racing.

Yes, I'd say describing the market as semi-efficient (pricing in public information but not private) is fairly accurate. However I think it's a mistake to say that markets are *always* efficiently priced and more correct to say they are *mostly* efficiently priced, with occasional changes from the efficient price.

With that in mind, I'd say the trick with stock investing is to focus on the few companies you find that are away from a 'correct' price, and recognise that the majority are about right.

For those that haven't read already, I'm an analyst at a funds management firm in Sydney called PM Capital. Whereas most fund managers construct portfolios to mimic the index, and then modify their weightings to add value, we strive for an absolute return by focusing on the 10% or so of the market where valuations are out of line with reality, and thus don't have strong views or positions on the majority of the market.

I would say that PM Capital adds value as a fund manager, and is one of the few that does, but of course my opinion is biased. :) Long-term after-fee after-tax returns should show that, however.

- Thomas.




PM Capital

Re: casino's, shares and more
 

Hi Thomas,

Even though it tends to be rare, I agree that there are a select group of money managers that do indeed "beat the market" consistently.

I personally believe you should become informed and be your own investment expert.

For example, there are investment systems you can use with no-load mutual funds that have historically beat the stock market averages by 1 percent over the course of the last 20 to 25 years.

Considering the fact that 80 percent of all mutual funds underperform the market averages in any given year, this is indeed an impressive track record.

Robert Campbell