1. 假设你用26.5美元购入了100股微软的股份,一周后,微软最重要的经理之一因为人为操纵公司的财务报告而被辞退.股票价格猛跌至23美元一股.请问你将如何处理你的股票?请你详细论述.
2. 你购入了英特尔公司的股票100股,每股29美元.三天之后股价降至27.5美元一股.你将如何处理?
3. 很幸运的是,你的一个朋友转卖给你一张西安去新加坡的机票,只要几百人民币!但是你现在在去机场的路上却遇到了塞车,为了按时到达机场,你必须超速驾驶,但即使你用最快速度,也不一定能够及时到达机场.你会如何处理?请详述.
4. 你买了一张CD,当你拿回家把CD从盒子里面拿出来的时候,不小心掉到了地上并且摔坏了.你会怎么办?请详述.
5. 你负责为公司出口部门购入一批计算机,你发现通过一个渠道可以购买到比正常价格低很多的计算机.在没有请示你上级的情况下,你低价购入了这些计算机.但货到后,你才发现货物有问题,而且卖方已消失不见了.你将如何处理这件事?请详述.
6. 你在5年前以15万美元购入了一套房产,现在房价已经涨至25万美元.你的邻居张贴了转让其和你房产仅一墙之隔的房子的广告,并在3天后将其卖给了当地有名的黑社会头目用来开一间俱乐部.你将如何处理这件事?请详述.
7. 你在股票牛市时以19美元购入了一支股票.你打算在它涨到20美元的时候抛出.在你通知你的股票经济人之前,股价攀升至20.1美元一股.你将抛出你的股票还是静候其变?请详述.
8. 你以22美元一股的价格购入了一支股票.在股票价格降至20美元每股的时候你打算割肉抛出.在你通知你的股票经济人之前,股价跌至19美元每股,但是随后又回升至20.1美元每股.你将如何处理?请详述.
答案(没有标准答案,只有精彩答案,本答案仅供参考)：
1 以26.5美元一股购入了100股 价格猛跌至23美元一股 这时我的损失共有350美元 约损失了13.2%的本金 这个损失不是非常的大 但我还是要及时的止损割肉 因为股票下跌的原因是 微软最重要的经理之一因为人为操纵公司的财务报告而被辞退 这说明先前的股票价格极有可能存在泡沫 股票的价格先前可能被人为抬高了 26.5美元的价格是买的偏高的 恐怕在短期之内不会回归 另外 如果有律师发起对微软的诉讼 我将参与其中 以减少弥补我损失 但在过程中不会付出太多成本 因为我的持股数不多
2 因为只买了100股 破位就抛出割肉 尽量打短平快的战术 止损后再逢低吸纳 逢高卖出 把损失的部分再弥补回来 如果奉行的是长期投资策略 应当事前建立清晰的投资目标策略并坚决执行这些计划 忽略现在短期的市场波动 投机要看技术位和止损位的 破位就要抛出 总之要一切按照计划行事，不能犹豫跟风
3 要明确机票的价值只有几百元人民币 这和超速驾驶带来的严重后果的风险比 是很小甚至是可以忽略不计的 所以 不会为了几百元人民币的机票去冒风险 放弃所需成本是最小的 但看眼前的机票就要白白损失掉 看实际情况想些办法尽量去争取弥补损失 比如航空公司好像有在飞机起飞前多少小时可以退票的规定 如果在时间内就给航空公司打电话退票 这样可以把损失减少到最少 如果当时天气不好 还可以按照正常的车速继续赶往机场 因为飞机起飞不一定完全会准点 会因为天气等其它不可抗拒的因素所影响 特别是在中国 所以按照正常的车速继续赶往机场 也许还有一线希望
4. 你买了一张CD,当你拿回家把CD从盒子里面拿出来的时候,不小心掉到了地上并且摔坏了.你会怎么办?请详述. 答:遇上这样的事,肯定是谁都不会很开心.可是,光沮丧又有什么用呢?既然摔坏了. CD就失去了其基本的使用价值。直接把CD扔了属于上策。如果这张CD不是我非常喜欢且要收藏的,而且市面上现在和将来会经常买的到.那我就要考虑考虑是否还真值得再去买一张了.如果这张CD是我非常喜欢且要收藏的,并且凭我对唱片市场的了解,这张CD还有收藏升值的潜力,那我会考虑再去买一张的。不过有办法不用我再破费.如果这张CD是在一家大型的,非常有信誉的商家买的.我可以凭我的购物发票或有效单据提出退换货要求.买CD的时候,CD碟片是在CD盒里的,并没有打开包装.谁也不能证明保证我在购买前CD就一定是完好无损的.所以,通过这种办法也许不用再花我的钱就可以再得到一张CD.不过这只是存在钻空子的机会,且这样做是要冒风险的，没有道德。实在是不得以而为之的下策。不值得采用。另外还可以找一位CD盒子坏掉的人，把盒子卖给他。但这要花费我的大量时间，成本未免有些太高了。也不值得采用。所以还是直接把CD扔了为上策。因为再花非常多的时间在它身上只会继续增加成本而无任何收益。当然了如果我还没有镜子把它当作镜子使用最好了。
5. 你负责为公司出口部门购入一批计算机,你发现通过一个渠道可以购买到比正常价格低很多的计算机.在没有请示你上级的情况下,你低价购入了这些计算机.但货到后,你才发现货物有问题,而且卖方已消失不见了.你将如何处理这件事?请详述. 答:首先我自己要明白这一切的结果都必须由我自己来承担.虽然我这样做的目的是给公司节约成本。在货到后,我要及时跟我的上级领导联系,向他们如实的讲明事情的经过.因为如果等到这批计算机投入使用的话,带来的损失会更大. 不能一错再错，遮遮掩掩只会是问题扩大 同时要采取法律手段最大限度的减小损失。再一个卖方已消失不见了,如果仅仅以我自己的力量去解决这件事,是非常困难的.通过公司的出面解决,可以把损失降到最少更快.与此同时,还要检查一下这批计算机出的问题在哪.做好记录,以备将来之打官司或其它之用.然后看看这批计算机是否还能正常使用,问题是否很严重.如果不是很严重,稍加维修或更换配件就可继续正常使用的话,这样的结果还算是万幸了。另外，事件的所有损失应由我个人来承担，因此我不能因此而辞职。相反我要继续干下去，直到弥补完我给公司带来的所有损失后再做下一步打算。
6. 你在5年前以15万美元购入了一套房产,现在房价已经涨至25万美元.你的邻居张贴了转让其和你房产仅一墙之隔的房子的广告,并在3天后将其卖给了当地有名的黑社会头目用来开一间俱乐部.你将如何处理这件事?请详述. 答:呵呵 这个问题有意思。首先要知道做房地产是投资而不是投机（当然中国现在还是投机）。所以我会坚决卖出或出租我的房地产，因为黑社会的进入导致我的投资出现了重大不可控制和遇见的风险，虽然黑社会头目带来的俱乐部的开业会带动该地区的房价继续上涨。但带来的风险也是非常大的。继续上涨的房价还会有存在一定的泡漠在里面。继续持有的话就属于投机行为，而不是理性投资了，是要冒巨大风险的。这不符合投资的理念。而且5年内我的房产上涨了10万美元，涨幅达到67%。这个收益果是相当可观的了。应该考虑撤出这项投资了。
7. 你在股票牛市时以19美元购入了一支股票.你打算在它涨到20美元的时候抛出.在你通知你的股票经济人之前,股价攀升至20.1美元一股.你将抛出你的股票还是静候其变?请详述. 答: 虽然是牛市，我也会按照事前的计划抛出部分股票,股票市场瞬息万变,.犹豫会使我失去最好的机会。事前打算在它涨到20美元的时候抛出的计划一定是经过考虑的。现在的前提是牛市，股票的价格上涨空间普遍是很大的。在牛市时以19美元购买的股票，19美元的建仓仓位恐怕就已经比较高了，所以如果股价攀升至20.1美元一股时，我会抛出手中股票的四分之一或是三分之一，如果再次跌到20美元，我会把其余的部分全部抛出。如果仍然继续上涨，则逐步减仓。卖出后,我会及时的跟我的股票经济人进行沟通.向他讲清楚.并给他分析现在这只股票的价格形势,告诉他现在是否还值得继续追涨或在什么价位值得再继续吸入.现在是牛市嘛,所以机会还是非常多的.
8. 你以22美元一股的价格购入了一支股票.在股票价格降至20美元每股的时候你打算割肉抛出.在你通知你的股票经济人之前,股价跌至19美元每股,但是随后又回升至20.1美元每股.你将如何处理?请详述. 答:我的经验是股市操作最忌诲的就是犹豫不绝,既然决定在股票价格降至20美元每股的时候割肉抛出.那就说明事前已经研究过20美元左右是止损点。即如果股票价格降至20美元我就要全部抛出了。现在股票价格是20.1美元。只比止损点20美元多零点一美元。我会抛出手中股票的三分之一，如果再次跌到20美元时，我会把其余的部分全部抛出。如果继续上涨至22美元，则抛出另外的三分之一，其余的三分之一我会继续持有，再观变化。从我和我的股票经纪人联系的短短时间之内，该股票的价格就有非常大的波动来看。来这支股票是相当活跃的，短线的交易非常明显。感觉还会有上涨的空间。所以在20到22美元之间，我会有很多做短线投机的机会的。
Monday, October 7, 2013
Wednesday, September 11, 2013
中小规模资金的策略及其资金管理
John J. Murphy总结的资金管理要领：
1，投资额必须限制在全部资本的50%以内。
2，在任何单个市场上所投入的总资金必须限制在总资金的10%至15%以内。
3，在任何单个市场上的最大总亏损金额必须限制在总资本的5%以内。
4，任何一个市场群类上所投入的保证金总额必须限制在总资本的20%至25%以内。
分散风险带来的是ROI稳定性的增高，并通过判读Edge降低部分系统风险(即指数大环境风险和交易策略的固有风险)。但：
1，分散风险的同时，也分散了收益；
2，分散风险所持仓的数目与资金规模之间的关系显然是非线性的，其理论的内容并不多，却实际被成功验证的经验公式的公开资料很少。
以John J. Murphy的理论公式来说：
1，没有数据and/or记载表明，其资金管理要领在某种资金规模被例证过，更未被证明是成功的，也当然就无从知晓该策略(或经验公式)是适合何种资金规模的；
2，共同基金或养老基金明确地不使用该策略，因为资金量巨大的共同基金和养老基金分散持有几百只股票。
分散风险是大资金的事情，其原因只有两类：
1，大资金做大散户，即在一揽子股票里做跟随资金，共同基金和养老基金是这个操作模式的代表；
2，大资金同时在多个股票里做庄打底仓，部分资金被循环利用地轮流拉升各股票。
主力资金或庄家，比如，Buffett, Soros,
Rogers, Peter Lynch, 从来没有写过有具可操作性的书！他们宣扬价值投资，宣扬市场整体是客观的、机械运行的、随机漫步的、混沌无序的、无生命的Entity，却从不揭示市场人与人之间博弈的本质，且博弈类型是：专业运动员兼裁判员 vs 业余儿童选手 之间的游戏! 他们的理念虽然不具有实际可操作性，但却成功地限制了中小资金量的操作思维!
包括货币政策、股市“投资”和期货操作在内的一整套金融运行和银行体系，是最具蓄意欺骗性的。西方社会是金权天下，金钱操纵权力，进而统治全社会，经济和金融上的欺骗性远远超过政治上的欺骗性(西方社会在经济和金融上包装神话、运作个人崇拜、鼓吹社会公平性和个人努力的重要性；东方社会在政治上包装神话、运作个人崇拜、鼓吹血统高贵论和独裁专制合理性：东方社会的政治欺骗性，远远超过经济和金融上的欺骗性!)。比如《幽灵的礼物》，这种Make No Sense的专门为股市“投资”愚民的东西， 在西方任何其它领域根本就不会被出版，因为不具备任何理性、不可能有任何销售市场。
有关交易的书，都是操作中小资金的市场跟随者写的！而且，绝大多数市场跟随者的操作思维和其中的出色者所写的书都被其庄家对手的著名理念限定了(因而，结果只有两种：
1，一文不值的东施效颦式俗套大路货，其中包括绝大多数从未被作者本人实际验证的欺骗性内容；
2，即使小有所成也成不了气候)
Livermore只有500股购买力的时候，想过丝毫分散风险么？根本没有！他注重的是极高的行情判读概率，等待、再等待，一次性全仓倾囊而出进入价格$98.xx的Bethlehem Steel! 当所获利润变得安全后，在继续高概率看好后续行情的情况下，立刻在$114.xx用Margin加码500股！(那时股票交易虽是保证金制，但其含义等同于现代意义的“用Margin加码”)
从资金管理的“通行”原则来看，这是极端错误的，更与Livermore本人原创的小资金量试仓、逐渐积累重仓等等原则是完全背道而驰的！原因仅在于：
当时的Livermore是个只有几万美元持仓能力的微资金市场跟随者，不是从前的以亿为单位的大资金市场主导者了！
资金规模的巨大差别导致交易策略和资金管理的天壤之别！
大资金优质ROI的判断标准，按重要性递减顺序排列为：
1，稳定性，表现为Drawdown小，ROI曲线振幅的标准方差小；
2，连续的阶段盈利性；
3，回报率。
(事情的反面：主力资金把股价从阶段性高位打到阶段性低位时，其自己的持仓也有大幅Drawdown，关键的不同是：主力资金有定价权！有定价权的无法或无需使得ROI曲线平滑向上，却要求无定价权的ROI曲线平滑向上？
推论：高概率判读并跟踪主力操盘意图是市场跟随者稳定盈利的唯一手段！)
大资金注重盈利绝对额，绝对额可以很大，但由于本金更大，所以ROI小，有条件追求Stability, Stability也合理并切实可行。
交易策略不是科研，而是寻求理论上正确的，事实上可行的、可重复的经验公式！在具体条件不同时，需要舍弃一些目标，以达到更重要的目标！
对于以$B为Unit的大规模资金来说，年平均ROI=15%基本上是可望不可及，而对于$100K的小资金来说，年平均ROI=15%没有任何意义！因为，对于Accumulative
ROI=100%，理论上：
ROI=15%=5年；
ROI=20%=4年；
ROI=26%=3年；
ROI=40%=2年；
对于$100K的小本金，ROI=15%最好的可预期不过是5年变成$200K，10年变成$400K，这其中还要假定每年额外逐年增多交税的再投入。$400K资金量可以勉强接受ROI=15%，因为其盈利绝对额相当于Average W2收入，前提还要假定每年的收益都消费掉而不再利用复利。而人生又有几个美好的10年？Life is short, and
energetic life span is even shorter!
ROI稳定增长ф=α+β*|?index|: 大资金侧重于Seeking β, 即相对于指数的Edge(同时处理Systematic Risk)，小资金则侧重于Seeking α, 即独立于指数的个股Edge(同时处理Idiosyncratic Risk).举例来说，β of 无视指数环境强庄股=0；若以Index=SP500为Benchmark, α of
SPY=0且β of SPY =1.只要有分散持仓，就是Seeking α和Seeking β的混合体：仓位品种越少，Seeking α的成分越多于Seeking β；反之，仓位品种越多，Seeking β的成分越多于Seeking α.
(推论：宏观统计上，共同基金和养老基金是华尔街的Pool of Cash Flow, 其回报率即使不是高概率的负值，也都大大低于指数回报率！因而，甚至在不计算Long Term
Inflation-adjustment的情况下，即使401K和IRA有阶段性Nominal盈利，期待其最终回报都是荒谬！更兼从1980年代以来，由于美元脱钩黄金后开始逐渐显现无约束地通胀，指数回报率低于通胀速度! W2收入的人最终养老都只能指望政府福利!)
对于Up To $Multi-M规模的中小资金，更注重的是ROI的(快速)大幅增值，即Seeking α。否则，盈利绝对额由于太小而没有意义！不但要求盈利总额至Certain Measurability，单笔操作的盈利额也要求Certain Measurability，否则，虽然交易原则要求平仓但盈利额却不足以平仓，导致概率上更容易犯错(即，Fail To执行交易策略)。In Order To达到单笔操作具有Measurable盈利额，一方面投入的仓位资金不能太小，另一方面，由于单笔操作期待Measurable ROI，较大仓位参与才有意义。因而，小资金本来就小了，单笔投入就不能更小！所以：
1，既不能分散资金持仓；
2，也不能单品种分批操作；
由于分散风险的同时也降低了收益，分散持仓对中小资金在目标上就根本不适合！
所以，中小资金在所操作目标的Liquidity不是问题的情况下，分散风险是次要考虑的因素，Instead, 个股和各仓位的高概率判读大涨幅行情是关键(这是Seeking α的本质!)！即，要在注重高概率判读大涨幅行情的基础上，以高ROI为首要目标集中重仓操作！其最佳操作模式是：
1，相对于资金量，在Liquidity合适的情况下，更注重对个股高概率判读大涨幅行情！
2，在1所带来的低风险基础上，大仓位地波段或中长线持仓参与大波幅行情。
这要以牺牲优质ROI标准里的稳定性和连续阶段性盈利性为代价。Losing time and/or
losing money vs ROI are naturally exclusive entities. 稳定性的降低和非连续阶段性盈利并不一定代表赔钱，小资金应该追求的是：折中“Losing time vs ROI”两个Exclusive矛盾体！并进一步按具体资金量优化为：
1, “Losing long time vs High ROI” with defining long and high!
2, With defining acceptable "longer" of time vs reasonable
"higher" of ROI, the smaller the seed capital, the longer the time
could be lost!
也即，只能：Losing Time and Stability并以高概率判读大涨幅行情为基础！同时，ROI vs Stability作为需要折中(Trade-off)的两个Factors，在具体实施理论时，任何经验公式都是有底线的，即Expected High ROI有Ceiling Limit，本金也有Bottom Minimum，即适度规模的本金是成功的前提之一！
小资金的策略应该是以低风险为基础，重仓持有高概率大涨幅行情的股票：既不存在同时持仓多品种，也不存在对单个品种的分批操作！具体绩效的特征表现为：阶段性地，要么不赚不赔或空仓，要么重仓低风险地较长时间持仓等待(在容忍范围内震荡)，要么由于重仓参与了大行情而大赚。
（小资金为了稳定地阶段性盈利，事实上逐渐演变成频繁小Time Frame地较大仓位操作， 否则每个操作结果的盈亏都太小而可忽略不计。由于绝大多数人并不理解正确的短线交易哲学，也不具有短线行情判读能力，更兼有时正确操作了、却由于绝对盈利额太小而未平仓、却最终转变为亏损，结果绝大多数是：更快、更稳定地赔钱）
由于大众被Pattern-Trained成ROI曲线不能大起大落，然而，事实上，
很多有行情的股票都大起大落，特别是，大行情在趋势运行过程中：
1，大多数阶段行情都有至少15%-20%的Correction(表现在ROI上就是Drawdown)，这是主力资金做盘过程中为了残酷打击各类跟随盘交易系统的必然需求！(也即，持仓跟随大行情运行过程中，个股的较大Drawdown是高概率发生的，大资金跟随市场必须考虑以调仓或降低持仓比例以部分地规避，而小资金调仓或降低持仓比例的结果是：盈亏太小而没有意义!)
2，大趋势由系列阶段性上涨20-30%的行情波段组成， 而到了这个涨幅度，大众被PT成至少部分地Lock in Profit，因而， 很难大仓位赢得大行情的大部分应得利润；尤其是，翻倍或翻数倍的行情从底部突破上涨20%时才不过是上涨的前奏！(而丢掉仓位后，一般难有很好的更低价格补仓机会)
所以：
1，读懂主力资金操盘意图、各阶段所使用的操盘手法(侧重于动作)和手段(侧重于工具)、各阶段行情在大趋势中的所处位置和状态、以及结合盘外因素综合解读盘面为何如此发生的可能原因，是小资金获得高ROI必须的前提和关键！比如，在综合高概率行情判读下的长期底部突破后的回调阶段性底部介入可以重仓，行情总体涨幅还太小、以至没有足够派发空间，行情总体涨幅适中、但还没有派发迹象，等等。不敢重仓的本质原因是没有能力高概率判读行情！
2，中长线跟踪仓位和行情过程中，忍耐(或有时规避)高概率大行情所必有的大幅洗盘和调整。大百分比资金持仓时，遇到不可避免的调整，当然会使得整体帐户Drawdown增大，从而稳定性降低，不适合大资金跟随市场。事实上，任何不使用Leverage的高ROI都不得不如此(其例外是连续高胜率地短线做期指或期货(of Built-in High
Leverage), Martin S. Schwartz做到过并且有公开实时记录证明， 他能稳定高ROI操作的资金规模上限是$80M)。当然，前提条件是低风险：行情判读是一切交易策略的绝对基础和不二关键；资金管理配套判读正确度，令交易策略可持续在市场内生存并发展。
统计上，从ROI上来说，这种操作模式显然：
1，稳定性：不稳定。不稳定的定义是：Drawdown将Measurable Paper Gain抹去显著部分。所以，入点和中长线行情高涨幅判读很重要，否则就成了Measurable Paper Loss; Measurable Paper
Loss是不能被容忍的， 而Drawdown造成较大账面损失与抹去显著账面利润是不同的概念！
2，连续的阶段盈利性：需要容忍可能出现的较长时间没有阶段性盈利，且忍受的ROI震荡波幅较大(可能抹去显著部分账面利润)。但在高概率行情判读带来的低风险和以输时间为代价(延长Time Frame)的前提下，只有两个结果：不赚不赔，大赚。
这需要在安全的基础上，容忍较高Drawdown和较长时间的ROI曲线非平滑向上。举例来说，对于$50K的资金，各投入$25K资金量持有两只股票。ROI可表现类似：
1，前三个月在-10% ~ +10%之间波动，接着较快地上涨到ROI=30%；
2，随着阶段性回调，总共三个月内慢慢回落到ROI=15%；
3，较快地上涨到ROI=45%，然后随着阶段性回调总共三个月内慢慢回落到ROI=20%；
4，然后较快地上涨到ROI=60%，然后随着阶段性回调总共三个月内在ROI=(40% ~ 55%)之间震荡。
历时一年，所持仓的行情还没有结束。以连续年度ROI为例来说，连续三年ROI在20%-50%之间震荡显然比三年都稳定在15%的绩效要好出数量级，当然其前提是：
1，资金规模是$Mult-M以下的中小资金；
2，交易哲学和策略能逻辑清晰地解释使得ROI保持在20%+的合理性。
市场容量上，低风险地较长时间重仓等待并参与大行情，切实可行地适合小资金，因为，这种模式的Timing信号少，Liquidity相对小以及Timing信号区的成交量和成交金额也小。大资金则根本无法操作。
随着小资金的成长，资金规模越来越大时，可以在高概率判读为基础的低风险条件下，逐渐更多地利用在品种数目上逐渐增加的分散持仓，以兼顾稳定性和连续阶段性盈利。
Sunday, March 10, 2013
ETN
| Symbol | Name | Last Trade | Type | Industry/Category | Exchange |
|---|---|---|---|---|---|
| JO | iPath DJ-UBS Coffee TR Sub-Idx ETN | 31.61 | ETF | PCX | |
| JJC | iPath DJ-UBS Copper TR Sub-Idx ETN | 44.02 | ETF | PCX | |
| GAZ | iPath DJ-UBS Natural Gas TR Sub-Idx ETN | 2.67 | ETF | PCX | |
| BAL | iPath DJ-UBS Cotton TR Sub-Idx ETN | 56.13 | ETF | PCX | |
| DJP | iPath DJ-UBS Commodity Index TR ETN | 40.53 | ETF | PCX | |
| SGG | iPath DJ-UBS Sugar TR Sub-Idx ETN | 67.16 | ETF | PCX | |
| JJG | iPath DJ-UBS Grains TR Sub-Idx ETN | 52.08 | ETF | PCX | |
| COW | iPath DJ-UBS Livestock TR Sub-Idx ETN | 26.34 | ETF | PCX | |
| NIB | iPath DJ-UBS Cocoa TR Sub-Idx ETN | 28.66 | ETF | PCX | |
| JJS | iPath DJ-UBS Softs TR Sub-Idx ETN | 53.17 | ETF | PCX | |
| LD | iPath DJ-UBS Lead TR Sub-Idx ETN | 53.01 | ETF | PCX | |
| JJU | iPath DJ-UBS Aluminum TR Sub-Idx ETN | 22.49 | ETF | PCX | |
| JJT | iPath DJ-UBS Tin TR Sub-Idx ETN | 54.78 | ETF | PCX | |
| JJP | iPath DJ-UBS Prec Metals TR Sub-Idx ETN | 84.17 | ETF | PCX | |
| JJN | iPath DJ-UBS Nickel TR Sub-Idx ETN | 23.20 | ETF | PCX | |
| JJE | iPath DJ-UBS Energy TR Sub-Idx ETN | 17.67 | ETF | PCX | |
| JJA | iPath DJ-UBS Agriculture TR Sub-Idx ETN | 54.91 | ETF | PCX | |
| JJM | iPath DJ-UBS Ind Metals TR Sub-Idx ETN | 32.87 | ETF | PCX | |
| PGM | iPath DJ-UBS Platinum TR Sub-Idx ETN |
Gambling and Investing.
"It is generally agreed that casinos should, in the public interest, be inaccessible and expensive. And perhaps the same is true of stock exchanges." - John Maynard Keynes
What is the difference between gambling and investing? In order to differentiate between the two, we should start by defining them. Comparisons are often made between the two activities, but I've never seen the terms explicitly defined. If you're sufficiently motivated, I encourage you to try to define the terms 'gambling' and 'investing' before you continue reading this essay... you may surprise yourself. (Go ahead, I'll wait here for you.)
What definitions did you come up with? Are investing and gambling mutually exclusive, or is there an area of overlap? And are the boundaries clearly delineated, or is there a gray area in the middle?
Let's see what the dictionary says. Here's what the Random House dictionary on my bookshelf says:
"Gamble: To play at any game of chance for stakes. To stake or risk money, or anything of value, on the outcome of something involving chance."
"Invest: To put money to use, by purchase or expenditure, in something offering profitable returns."
Both seem reasonable upon cursory review, but a closer look reveals that they're not terribly helpful. The definition for gambling could apply just as well to investing, and vice-versa.
The Dictionary.com web site says:
"Gamble: To bet on an uncertain outcome, as of a contest. To take a risk in the hope of gaining an advantage or a benefit."
"Invest: To commit money or capital in order to gain a financial return."
Again, the distinction isn't clear. In investing, are you not betting on an uncertain outcome? Are you not taking a risk in the hope of gaining an advantage or benefit? In gambling, are you not committing money? Are you not doing it in order to gain a financial return?
Beyond the Dictionary
OK, so the dictionary definitions aren't very useful. Perhaps if we examine some of the ways in which gambling and investing are generally perceived to differ, we might be able to build definitions from those characteristics.
Perceived distinguishing characteristic: Investing is a good thing, gambling is a bad thing.
I think it would be hard to argue with the claim that investing is, on the balance, a good thing. Investing is widely regarded as the engine that drives capitalism. It tends to put money in the hands of those with the most promising and productive uses for it, and drives the economy gradually upward. Investors aren't merely betting on which companies will succeed, they're providing the capital those companies need to accomplish their goals. The U.S.'s leadership position in technology is largely due to investments by venture capital firms, angel investors and technophilic individual investors. Similarly, you can change the world in a small way by investing in companies you believe in, such as socially or environmentally conscious firms and mutual funds, or biotech companies that are working on diseases that might affect you or someone close to you.
Gambling, on the other hand, is not so clearly making a positive contribution. Gambling does tend to help local economies, but also usually brings with it well-documented unpleasant side effects. I'll leave it up to the reader to decide whether gambling is, on the balance, a plus or a minus. Looking to the financial markets, one could make the case that people who gamble in this realm do serve a function, by adding to the market's depth, liquidity, transparency, and efficiency. But that's of relatively minor value, and those gamblers probably capture most of that value for themselves. On the other hand, they often increase the volatility of the markets, which is on the balance usually a negative (although it does afford savvy investors opportunities for larger profits). As Warren Buffett has said, "Wall Street likes to characterize the proliferation of frenzied financial games as a sophisticated, prosocial activity, facilitating the fine-tuning of a complex economy. But the truth is otherwise: Short-term transactions frequently act as an invisible foot, kicking society in the shins."
The questions of whether gambling is morally wrong and how strictly it should be regulated are important but are well beyond the scope of this essay, and so I'll mention them only in passing. Governments generally frown on gambling (unless, of course, they're getting the lion's share of the profits, such as with state lotteries). Many religions frown on gambling (but they don't seem to mind church bingo). I have no problem with a person being morally opposed to gambling, as long as that person knows exactly what he/she means by 'gambling'.
I should hasten to add that not all types of investing are productive. Buying and holding results in a positive contribution to the economy, but buying and selling quickly, the way day traders do, results in no net contribution. For the purposes of the current investigation, we could either reclassify investing-type activities that aren't productive as gambling, or we could consider these to be exceptions to the rule. I lean toward the latter interpretation.
Perceived distinguishing characteristic: In investing, the odds are in your favor; in gambling, the odds are against you.
Peter Lynch has said that "An investment is simply a gamble in which you've managed to tilt the odds in your favor." But that position is too simplistic. There are plenty of investments where the odds are against you: futures, options, and commodities trading (where you get hurt on commissions and the bid/ask spread), frequent stock trading (for the same reason), and selling short (since the market goes up rather than down in the long run), to name just a few examples. Similarly, while for most types of gambling the odds are against you, it is possible for the odds to be in your favor. I spent one summer during college working in Arizona, and I drove up to Nevada most weekends to play blackjack. By counting cards, I was able to obtain a small but predictable advantage over the house, about 1.5% per betting unit on average. (I haven't returned since then, for several reasons: it's not intellectually challenging; while card counting is not illegal, Vegas casinos can make you leave if they suspect you of doing it; and I've found it easier and more enjoyable to make money in stocks than in blackjack.) Expert poker players can also make money at casinos, because their competition is other players rather than the house, and as long as the house takes its cut it doesn't care how the rest of the money is redistributed among the players.
There are additional problems with this attempted characterization of gambling as a losing bet and investing as a winning bet. It implies that a given activity switches from gambling to investing (or vice versa) as soon as the odds swing past the breakeven point. Similarly, if two players are participating in an activity in which one has an advantage over the other, it would mean that one person is gambling and the other is investing. That would imply that institutions which get in on IPOs at the offering price would be investors, and the little folks that those institutions immediately flip the shares to for a profit would be gamblers. Furthermore, while it's possible to calculate exact odds for some casino games, this is rarely the case on Wall Street. How can you know for sure whether the odds are for or against you if you decide to buy a particular stock today?
What about venture capital investments, you say? Aren't the odds stacked against them? Yes, the majority of venture capital investments result in loss, often a total loss of the amount invested. However, venture funds typically yield higher returns than stocks because a small percentage of the firm's investments are home runs, more than making up for complete losses on other investments. So while venture capital might seem like gambling in that the odds are against the VC firms on any given bet, on average the expected payoff is positive, so the odds in the long run are actually in their favor.
Perceived distinguishing characteristic: Gambling can be addictive and destructive, but investing can't.
Compulsive gambling has been correctly identified as a problem, and organizations like Gamblers Anonymous are helping people cope with the problem. No similar problem is generally thought to exist in investing. There is no Investors Anonymous, and no one talks about compulsive investors. But while there isn't yet widespread acknowledgement of investing addiction, there will be soon. Marvin Steinberg, executive director of the Connecticut Council on Compulsive Gambling, recently said this about investing addiction: "We don't know the true extent of the problem because hardly anyone identifies it as a gambling problem -- they see it as a 'financial problem' or an 'investing problem.' " Many online investors who claim to be buy-and-hold investors check their portfolios on a daily or hourly basis, and jump in and out of stocks more often than they realize. Active trading can be expensive, both in terms of the commissions and bid/ask spreads and in terms of emotional fatigue. Also, some people invest more aggressively than they should, which is virtually identical to gamblers who bet more money than they can afford to lose. This page provides a list of questions to help a person determine if he/she might be a compulsive gambler. Replace the word 'gambler' with 'investor' for each question and the questionnaire is equally useful, but for a different purpose.
Perceived distinguishing characteristic: Gambling is entertainment, investing is business.
As Brad Hill has said, "Global financial markets represent the greatest spectator sport humanity has ever devised. It has planetary reach, a multitude of local competitive arenas, volumes of statistics, star players, and -- best of all -- anyone can move between the domains of observer and participant, fan and player. If you squint just right, the steadfast newscasters of CNBC appear to be play-by-play announcers, calling the game for U.S. fans. And do financial sections of newspapers differ from sports sections in their presentation of story, data, and personality? Not essentially." While the 'gambling as entertainment, investing as business' dichotomy may have been clear in the past, the line is being blurred. The internet has enabled online brokerages and other financial web sites to revolutionize retail investing, which on the balance is a tremendous benefit to both individual investors and the economy in general. However, the widespread accessibility of cheap online trades has also attracted some people who enjoy betting and view online trading as a new form of entertainment. The major factors accelerating this trend are that gambling is strictly regulated and not ubiquitous, and that the odds are usually better in investing than in gambling.
Chris Anderson, executive director of the Illinois Council on Problem and Compulsive Gambling, has said that compulsive gambling isn't really about making money, it's about "action", and the lure of the big win. While I'm not a neuroscientist, I suspect that the chemical changes that occur in the brains of compulsive gamblers and compulsive day traders are similar, since they're both riding on the same emotional roller coaster of wins and losses. Similarly, while some people who invest in high-tech stocks do it for the potential returns, others do it because of the rush they get from the tremendous volatility. It feels right to classify the latter group as gamblers rather than investors.
I don't mean to imply that I think it's acceptable to gamble for entertainment but not to invest for entertainment. I think both are equally acceptable, provided the person enjoys the activity (as opposed to feeling a compulsion to participate) and provided the person uses only money he/she can afford to lose. But I'm probably not the best person to make a judgment on this question, because I've never found either gambling or investing to be entertaining... my goal has always been value creation rather than enjoyment, and I place bets only where the odds are most heavily in my favor, not where I expect to find the most excitement.
Perceived distinguishing characteristic: Investing is saving for specific goals, such as retirement, while gambling isn't.
Many people regard investing as a planned strategy of wealth-building for specific future goals. And this is certainly true of some types of investing. But this is largely a by-product of having the odds in one's favor. If you have the edge (whether in blackjack or in equities), time and the laws of probability are a powerful combination. Gambling would work just as well as investing for financial event planning if gambling games were in your favor.
Perceived distinguishing characteristic: Investors are risk-averse, while gamblers are risk-seekers.
Risk-taking is intrinsic to both gambling and investing. There are a few investments that don't entail risk, such as fixed annuities and government bonds held to maturity, but even those have inflation risk. The major difference between the two groups seems to be the participant's relative willingness to accept risk. Investors tend to avoid risk unless adequately compensated for taking it, but gamblers don't. To put it another way, investors take only the risks they should take, while gamblers also take some risks they shouldn't take. Would you rather have $50 or a 50/50 chance at $100? If you take the $50, you're an investor. If you go for all or nothing, you're a gambler. Would you rather put your money under your mattress or in an extremely volatile stock that could go bankrupt or could double in value? The question is slightly different, but the answer is equally instructive. If you expect to double your money quickly, whatever you're doing is probably gambling, even if it happens on Wall Street rather than in Las Vegas.
However, this characterization of gamblers as risk-takers applies only to non-professional gamblers, people who visit Atlantic City for a weekend for entertainment purposes. Professional gamblers who have managed to tip the odds in their favor behave more like investors, shying away from risk unless the reward is sufficient to justify taking the chance. In fact, one could make the argument that investors generally take on more risk than professional gamblers, because of the uncertainly inherent in the financial markets. As I mentioned before, it's difficult for investors to calculate how much of an advantage they have, but the odds of a given gambling strategy can be known either precisely or at least approximately.
Perceived distinguishing characteristic: Investing is a continuous process; gambling is an immediate event or series of events.
This rule does seem to hold in most cases. Investing is a continuous process of deployment of capital in search of continually increasing net worth. As a result, delayed gratification is implied. Gambling is a specific act or series of acts, centered around immediate gratification. In this respect, day trading resembles gambling: the participant gets in, the price moves up or down, and he/she gets out, usually in a matter of minutes. The same could be said of buying with the belief that a stock is about to jump, or buying IPO shares with the intention of flipping them in a few hours or days, or buying options which are close to expiration. On the other hand, buying in the belief that a stock's price will eventually reflect its value, with the plan of holding as long as it takes for this to happen, is more like investing.
Perceived distinguishing characteristic: Investing is the ownership of something tangible; gambling isn't.
The latter half of the statement is certainly true, but the former half is only sometimes true. Some investments involve the ownership of something tangible, but many don't. For example, derivatives are investments 'derived' from other investments. An option is a derivative that gives the owner the right to buy or sell a specific amount of a given security at a specified price during a specified period of time. Options are generally classified as investing rather than gambling, and rightly so, but they do not represent ownership of anything tangible. However, when you realize that an option is essentially a bet that a given security will or won't be above a certain price on or by a certain date, it starts to feel more like gambling than investing.
An even more strict definition of investing would require that it involves the purchase of an asset which either produces a stream of income or can be made to produce a stream of income. But this definition would eliminate such assets as collectibles, stamps, art, and gold, which have no intrinsic value. I don't think it makes sense to exclude them simply on this basis. We might choose not to consider them investments because of their poor long-term performance, but we shouldn't choose not to consider them investments simply because they won't ever produce a stream of income.
Perceived distinguishing characteristic: Investing is based on skill and requires the use of a system based on research, while gambling is based on luck and emotions.
A lot of so-called investors don't do nearly as much research as they should. Many buy on tips or rumors, or based on some analyst's price target, without doing their own exhaustive research. It feels right to call such behavior gambling. Similarly, investors who are making decisions based on emotions (especially greed and fear), rather than remaining emotionally detached and sticking with their strategy, are to some extent gambling.
On the other side of the coin, some gamblers do serious research, often paying hundreds of dollars a month for real time data on what the current lines are (for example, on http://www.scoresandodds.com or http://www.vegasinsider.com). Professional sports investors devote 12 hours a day, every day, to handicapping sports. They read dozens of newspapers, subscribe to line services, maintain inside contacts, and have years of experience, usually on both sides of the betting counter. These professionals keep their emotions away from the decision-making process. Once they have a system that works for them, they don't second-guess it, focusing on long-term profits instead of day-to-day performance. Also, they concentrate on the areas in which they achieve maximum results. Many professionals bet only on one sport, which bears more than a superficial resemblance to Warren Buffett's idea of staying within one's "circle of competence".
While investing and gambling probably initially appear to be worlds apart, the above attempts at differentiation revealed that the actual differences are smaller than the perceived differences, and that there is a significant gray area in the middle. Based on the above characterizations, it is clear that the appropriate classification isn't wholly dependent on the activity, but also on the way in which the activity is conducted. There's a big difference between buying a stock after thoroughly researching it and buying a stock by hitting it on a dartboard. This is true even if the same stock happens to be chosen. Similarly, there's a big difference between buying exotic derivatives to hedge against an existing risk or position and buying the same derivatives because you saw a web site touting them. As a final example, there's a big difference between buying a government bond in order to collect the interest it earns and buying the same bond in the belief that interest rates are about to drop and the bond's value will skyrocket.
One interesting thing to note is the pattern of exceptions to the attempted characterizations. Most of the exceptions were people who were doing investing-related things but weren't behaving like investors, or people who were doing gambling-related things but weren't behaving like gamblers. Of the four groups, recreational investors, professional investors, recreational gamblers, professional gamblers, there are more similarities between the two recreational groups and between the two professional groups than between the two investing groups and between the two gambling groups. Specifically, those who use a rigorous system, do research, tilt the odds in their favor, treat it as a business rather than as entertainment, avoid addiction, and keep their emotions in check tend to behaving like investors, and those who don't tend to be behaving like gamblers. It might not be such a stretch to call professional gamblers 'investors' and recreational investors 'gamblers'.
A Third Option: Speculating
Another possibility is that the two terms 'gambling' and 'investing' aren't sufficient to cover the entire range of activities under consideration. A third term, 'speculating', is often used to straddle the two, specifically to handle activities that would ordinarily be considered investing but are done in a way that make them feel more like gambling.
In The General Theory of Employment, Interest, and Money, John Maynard Keynes defined speculation as "the activity of forecasting the psychology of the market", and speculative motive as "the object of securing profit from knowing better than the market with the future will bring." Many people consider billionaire George Soros to be an investor, but he prefers the term speculator. In fact, he has said that "an investment is a speculation that has gone wrong." What he means by this is that, among speculators, an 'investment' is the name they give to a speculation that didn't work out the way they expected and that left them stuck with a position they hope will improve with time. Soros and other speculators make their predictions partially based on market psychology, and in this respect their behavior fits perfectly with the Keynes' definition of speculation. But there is much more to speculating than just interpreting market psychology, and this definition isn't sufficiently distinct from the ones we formulated for gambling and investing in the above section.
According to the dictionary on my bookshelf, speculation is "the engagement in business transactions involving considerable risk for the chance of large gains." By this definition, the entire distinction rests on the degree of risk and size of potential gains. In support of this definition, bond rating agencies commonly use the term "speculative" to refer to high-risk bonds (those rated below BBB by S&P or Baa by Moody's).
In their book Investments, Zvi Bodie, Alex Kane, and Alan Marcus argue that "a gamble is the assumption of risk for no purpose but enjoyment of the risk itself, whereas speculation is undertaken in spite of the risk involved because one perceives a favorable risk-return trade-off." But this is too simplistic... no one would play casino games if the only possible outcomes were either breaking even or losing; the rush they experience comes from the possibility of winning and not merely from the taking of risk. They continue: "To turn a gamble into a speculative prospect requires an adequate risk premium for compensation to risk-averse investors for the risks that they bear. Hence risk aversion and speculation are not inconsistent." This part I agree with. In fact, whether they realize it or not, their definition reclassifies gambling as speculation when the odds can be sufficiently tipped in the player's favor, such as in professional blackjack or poker, which fits in nicely with argument made in the previous section.
Zvi Bodie et al appear to be saying that in order to be speculating rather than gambling, the person must not take greater risks than are justified by the potential reward. Others say that in order to be speculating rather than investing the person must be taking greater risks than are justified by the potential reward. For example, in Benjamin Graham and David Dodd's classic Security Analysis, they argue that "an investment operation is one which upon thorough analysis promises safety of principal and an adequate return. Operations not meeting these requirements are speculative." Both positions are defensible. But perhaps a better interpretation would rest on the realization that different investors have different tolerances for risk. Perhaps speculators are those who are risk-neutral, while gamblers are risk-seekers and investors are risk-averse. While adding the term 'speculation' to the mix might have some value, it probably adds more confusion than clarification, so I prefer to leave it out and focus on just 'gambling' and 'investing'.
Conslusions
So what's my resolution to this definition conundrum? Well, the purpose of words is to communicate concepts. So it doesn't really matter what definitions you use, as long as you and the person(s) you're communicating with are clear about what is meant by those words. And even more importantly, as long as you know what you're doing, investing or gambling, before you do it.
But with that said, it would be beneficial if everyone could agree on what the terms mean, so we don't need to make our definitions explicit every time we want to use them. To this end, I offer the following definitions, which are built from the various characterizations in the above section:
Investing - "Any activity in which money is put at risk for the purpose of making a profit, and which is characterized by some or most of the following (in approximately descending order of importance): sufficient research has been conducted; the odds are favorable; the behavior is risk-averse; a systematic approach is being taken; emotions such as greed and fear play no role; the activity is ongoing and done as part of a long-term plan; the activity is not motivated solely by entertainment or compulsion; ownership of something tangible is involved; a net positive economic effect results."
Gambling - "Any activity in which money is put at risk for the purpose of making a profit, and which is characterized by some or most of the following (in approximately descending order of importance): little or no research has been conducted; the odds are unfavorable; the behavior is risk-seeking; an unsystematic approach is being taken; emotions such as greed and fear play a role; the activity is a discrete event or series of discrete events not done as part of a long-term plan; the activity is significantly motivated by entertainment or compulsion; ownership of something tangible is not involved; no net economic effect results."
Speculating - I would prefer to avoid this term entirely, but if necessary I would define it as "Investing or gambling characterized by a high degree of risk and a high potential for reward."
Are you disappointed that I didn't crystallize the essence of gambling and investing into a single distinguishing feature? Did I merely sidestep the ambiguity, and sweep the gray areas and the important exceptions under the rug? I don't think so. The taxonomy doesn't have to be completely distinct in order to be useful, nor does it need to be just a single feature. And just because some of the characterizations had exceptions doesn't mean they should be thrown out entirely. Nearly everyone agrees that the concept of 'chair' is a useful one, even though it's difficult to define exactly what the necessary and sufficient characteristics of a chair are.
Why Does it Matter?
What is the difference between gambling and investing? In order to differentiate between the two, we should start by defining them. Comparisons are often made between the two activities, but I've never seen the terms explicitly defined. If you're sufficiently motivated, I encourage you to try to define the terms 'gambling' and 'investing' before you continue reading this essay... you may surprise yourself. (Go ahead, I'll wait here for you.)
What definitions did you come up with? Are investing and gambling mutually exclusive, or is there an area of overlap? And are the boundaries clearly delineated, or is there a gray area in the middle?
Let's see what the dictionary says. Here's what the Random House dictionary on my bookshelf says:
"Gamble: To play at any game of chance for stakes. To stake or risk money, or anything of value, on the outcome of something involving chance."
"Invest: To put money to use, by purchase or expenditure, in something offering profitable returns."
Both seem reasonable upon cursory review, but a closer look reveals that they're not terribly helpful. The definition for gambling could apply just as well to investing, and vice-versa.
The Dictionary.com web site says:
"Gamble: To bet on an uncertain outcome, as of a contest. To take a risk in the hope of gaining an advantage or a benefit."
"Invest: To commit money or capital in order to gain a financial return."
Again, the distinction isn't clear. In investing, are you not betting on an uncertain outcome? Are you not taking a risk in the hope of gaining an advantage or benefit? In gambling, are you not committing money? Are you not doing it in order to gain a financial return?
Beyond the Dictionary
OK, so the dictionary definitions aren't very useful. Perhaps if we examine some of the ways in which gambling and investing are generally perceived to differ, we might be able to build definitions from those characteristics.
Perceived distinguishing characteristic: Investing is a good thing, gambling is a bad thing.
I think it would be hard to argue with the claim that investing is, on the balance, a good thing. Investing is widely regarded as the engine that drives capitalism. It tends to put money in the hands of those with the most promising and productive uses for it, and drives the economy gradually upward. Investors aren't merely betting on which companies will succeed, they're providing the capital those companies need to accomplish their goals. The U.S.'s leadership position in technology is largely due to investments by venture capital firms, angel investors and technophilic individual investors. Similarly, you can change the world in a small way by investing in companies you believe in, such as socially or environmentally conscious firms and mutual funds, or biotech companies that are working on diseases that might affect you or someone close to you.
Gambling, on the other hand, is not so clearly making a positive contribution. Gambling does tend to help local economies, but also usually brings with it well-documented unpleasant side effects. I'll leave it up to the reader to decide whether gambling is, on the balance, a plus or a minus. Looking to the financial markets, one could make the case that people who gamble in this realm do serve a function, by adding to the market's depth, liquidity, transparency, and efficiency. But that's of relatively minor value, and those gamblers probably capture most of that value for themselves. On the other hand, they often increase the volatility of the markets, which is on the balance usually a negative (although it does afford savvy investors opportunities for larger profits). As Warren Buffett has said, "Wall Street likes to characterize the proliferation of frenzied financial games as a sophisticated, prosocial activity, facilitating the fine-tuning of a complex economy. But the truth is otherwise: Short-term transactions frequently act as an invisible foot, kicking society in the shins."
The questions of whether gambling is morally wrong and how strictly it should be regulated are important but are well beyond the scope of this essay, and so I'll mention them only in passing. Governments generally frown on gambling (unless, of course, they're getting the lion's share of the profits, such as with state lotteries). Many religions frown on gambling (but they don't seem to mind church bingo). I have no problem with a person being morally opposed to gambling, as long as that person knows exactly what he/she means by 'gambling'.
I should hasten to add that not all types of investing are productive. Buying and holding results in a positive contribution to the economy, but buying and selling quickly, the way day traders do, results in no net contribution. For the purposes of the current investigation, we could either reclassify investing-type activities that aren't productive as gambling, or we could consider these to be exceptions to the rule. I lean toward the latter interpretation.
Perceived distinguishing characteristic: In investing, the odds are in your favor; in gambling, the odds are against you.
Peter Lynch has said that "An investment is simply a gamble in which you've managed to tilt the odds in your favor." But that position is too simplistic. There are plenty of investments where the odds are against you: futures, options, and commodities trading (where you get hurt on commissions and the bid/ask spread), frequent stock trading (for the same reason), and selling short (since the market goes up rather than down in the long run), to name just a few examples. Similarly, while for most types of gambling the odds are against you, it is possible for the odds to be in your favor. I spent one summer during college working in Arizona, and I drove up to Nevada most weekends to play blackjack. By counting cards, I was able to obtain a small but predictable advantage over the house, about 1.5% per betting unit on average. (I haven't returned since then, for several reasons: it's not intellectually challenging; while card counting is not illegal, Vegas casinos can make you leave if they suspect you of doing it; and I've found it easier and more enjoyable to make money in stocks than in blackjack.) Expert poker players can also make money at casinos, because their competition is other players rather than the house, and as long as the house takes its cut it doesn't care how the rest of the money is redistributed among the players.
There are additional problems with this attempted characterization of gambling as a losing bet and investing as a winning bet. It implies that a given activity switches from gambling to investing (or vice versa) as soon as the odds swing past the breakeven point. Similarly, if two players are participating in an activity in which one has an advantage over the other, it would mean that one person is gambling and the other is investing. That would imply that institutions which get in on IPOs at the offering price would be investors, and the little folks that those institutions immediately flip the shares to for a profit would be gamblers. Furthermore, while it's possible to calculate exact odds for some casino games, this is rarely the case on Wall Street. How can you know for sure whether the odds are for or against you if you decide to buy a particular stock today?
What about venture capital investments, you say? Aren't the odds stacked against them? Yes, the majority of venture capital investments result in loss, often a total loss of the amount invested. However, venture funds typically yield higher returns than stocks because a small percentage of the firm's investments are home runs, more than making up for complete losses on other investments. So while venture capital might seem like gambling in that the odds are against the VC firms on any given bet, on average the expected payoff is positive, so the odds in the long run are actually in their favor.
Perceived distinguishing characteristic: Gambling can be addictive and destructive, but investing can't.
Compulsive gambling has been correctly identified as a problem, and organizations like Gamblers Anonymous are helping people cope with the problem. No similar problem is generally thought to exist in investing. There is no Investors Anonymous, and no one talks about compulsive investors. But while there isn't yet widespread acknowledgement of investing addiction, there will be soon. Marvin Steinberg, executive director of the Connecticut Council on Compulsive Gambling, recently said this about investing addiction: "We don't know the true extent of the problem because hardly anyone identifies it as a gambling problem -- they see it as a 'financial problem' or an 'investing problem.' " Many online investors who claim to be buy-and-hold investors check their portfolios on a daily or hourly basis, and jump in and out of stocks more often than they realize. Active trading can be expensive, both in terms of the commissions and bid/ask spreads and in terms of emotional fatigue. Also, some people invest more aggressively than they should, which is virtually identical to gamblers who bet more money than they can afford to lose. This page provides a list of questions to help a person determine if he/she might be a compulsive gambler. Replace the word 'gambler' with 'investor' for each question and the questionnaire is equally useful, but for a different purpose.
Perceived distinguishing characteristic: Gambling is entertainment, investing is business.
As Brad Hill has said, "Global financial markets represent the greatest spectator sport humanity has ever devised. It has planetary reach, a multitude of local competitive arenas, volumes of statistics, star players, and -- best of all -- anyone can move between the domains of observer and participant, fan and player. If you squint just right, the steadfast newscasters of CNBC appear to be play-by-play announcers, calling the game for U.S. fans. And do financial sections of newspapers differ from sports sections in their presentation of story, data, and personality? Not essentially." While the 'gambling as entertainment, investing as business' dichotomy may have been clear in the past, the line is being blurred. The internet has enabled online brokerages and other financial web sites to revolutionize retail investing, which on the balance is a tremendous benefit to both individual investors and the economy in general. However, the widespread accessibility of cheap online trades has also attracted some people who enjoy betting and view online trading as a new form of entertainment. The major factors accelerating this trend are that gambling is strictly regulated and not ubiquitous, and that the odds are usually better in investing than in gambling.
Chris Anderson, executive director of the Illinois Council on Problem and Compulsive Gambling, has said that compulsive gambling isn't really about making money, it's about "action", and the lure of the big win. While I'm not a neuroscientist, I suspect that the chemical changes that occur in the brains of compulsive gamblers and compulsive day traders are similar, since they're both riding on the same emotional roller coaster of wins and losses. Similarly, while some people who invest in high-tech stocks do it for the potential returns, others do it because of the rush they get from the tremendous volatility. It feels right to classify the latter group as gamblers rather than investors.
I don't mean to imply that I think it's acceptable to gamble for entertainment but not to invest for entertainment. I think both are equally acceptable, provided the person enjoys the activity (as opposed to feeling a compulsion to participate) and provided the person uses only money he/she can afford to lose. But I'm probably not the best person to make a judgment on this question, because I've never found either gambling or investing to be entertaining... my goal has always been value creation rather than enjoyment, and I place bets only where the odds are most heavily in my favor, not where I expect to find the most excitement.
Perceived distinguishing characteristic: Investing is saving for specific goals, such as retirement, while gambling isn't.
Many people regard investing as a planned strategy of wealth-building for specific future goals. And this is certainly true of some types of investing. But this is largely a by-product of having the odds in one's favor. If you have the edge (whether in blackjack or in equities), time and the laws of probability are a powerful combination. Gambling would work just as well as investing for financial event planning if gambling games were in your favor.
Perceived distinguishing characteristic: Investors are risk-averse, while gamblers are risk-seekers.
Risk-taking is intrinsic to both gambling and investing. There are a few investments that don't entail risk, such as fixed annuities and government bonds held to maturity, but even those have inflation risk. The major difference between the two groups seems to be the participant's relative willingness to accept risk. Investors tend to avoid risk unless adequately compensated for taking it, but gamblers don't. To put it another way, investors take only the risks they should take, while gamblers also take some risks they shouldn't take. Would you rather have $50 or a 50/50 chance at $100? If you take the $50, you're an investor. If you go for all or nothing, you're a gambler. Would you rather put your money under your mattress or in an extremely volatile stock that could go bankrupt or could double in value? The question is slightly different, but the answer is equally instructive. If you expect to double your money quickly, whatever you're doing is probably gambling, even if it happens on Wall Street rather than in Las Vegas.
However, this characterization of gamblers as risk-takers applies only to non-professional gamblers, people who visit Atlantic City for a weekend for entertainment purposes. Professional gamblers who have managed to tip the odds in their favor behave more like investors, shying away from risk unless the reward is sufficient to justify taking the chance. In fact, one could make the argument that investors generally take on more risk than professional gamblers, because of the uncertainly inherent in the financial markets. As I mentioned before, it's difficult for investors to calculate how much of an advantage they have, but the odds of a given gambling strategy can be known either precisely or at least approximately.
Perceived distinguishing characteristic: Investing is a continuous process; gambling is an immediate event or series of events.
This rule does seem to hold in most cases. Investing is a continuous process of deployment of capital in search of continually increasing net worth. As a result, delayed gratification is implied. Gambling is a specific act or series of acts, centered around immediate gratification. In this respect, day trading resembles gambling: the participant gets in, the price moves up or down, and he/she gets out, usually in a matter of minutes. The same could be said of buying with the belief that a stock is about to jump, or buying IPO shares with the intention of flipping them in a few hours or days, or buying options which are close to expiration. On the other hand, buying in the belief that a stock's price will eventually reflect its value, with the plan of holding as long as it takes for this to happen, is more like investing.
Perceived distinguishing characteristic: Investing is the ownership of something tangible; gambling isn't.
The latter half of the statement is certainly true, but the former half is only sometimes true. Some investments involve the ownership of something tangible, but many don't. For example, derivatives are investments 'derived' from other investments. An option is a derivative that gives the owner the right to buy or sell a specific amount of a given security at a specified price during a specified period of time. Options are generally classified as investing rather than gambling, and rightly so, but they do not represent ownership of anything tangible. However, when you realize that an option is essentially a bet that a given security will or won't be above a certain price on or by a certain date, it starts to feel more like gambling than investing.
An even more strict definition of investing would require that it involves the purchase of an asset which either produces a stream of income or can be made to produce a stream of income. But this definition would eliminate such assets as collectibles, stamps, art, and gold, which have no intrinsic value. I don't think it makes sense to exclude them simply on this basis. We might choose not to consider them investments because of their poor long-term performance, but we shouldn't choose not to consider them investments simply because they won't ever produce a stream of income.
Perceived distinguishing characteristic: Investing is based on skill and requires the use of a system based on research, while gambling is based on luck and emotions.
A lot of so-called investors don't do nearly as much research as they should. Many buy on tips or rumors, or based on some analyst's price target, without doing their own exhaustive research. It feels right to call such behavior gambling. Similarly, investors who are making decisions based on emotions (especially greed and fear), rather than remaining emotionally detached and sticking with their strategy, are to some extent gambling.
On the other side of the coin, some gamblers do serious research, often paying hundreds of dollars a month for real time data on what the current lines are (for example, on http://www.scoresandodds.com or http://www.vegasinsider.com). Professional sports investors devote 12 hours a day, every day, to handicapping sports. They read dozens of newspapers, subscribe to line services, maintain inside contacts, and have years of experience, usually on both sides of the betting counter. These professionals keep their emotions away from the decision-making process. Once they have a system that works for them, they don't second-guess it, focusing on long-term profits instead of day-to-day performance. Also, they concentrate on the areas in which they achieve maximum results. Many professionals bet only on one sport, which bears more than a superficial resemblance to Warren Buffett's idea of staying within one's "circle of competence".
While investing and gambling probably initially appear to be worlds apart, the above attempts at differentiation revealed that the actual differences are smaller than the perceived differences, and that there is a significant gray area in the middle. Based on the above characterizations, it is clear that the appropriate classification isn't wholly dependent on the activity, but also on the way in which the activity is conducted. There's a big difference between buying a stock after thoroughly researching it and buying a stock by hitting it on a dartboard. This is true even if the same stock happens to be chosen. Similarly, there's a big difference between buying exotic derivatives to hedge against an existing risk or position and buying the same derivatives because you saw a web site touting them. As a final example, there's a big difference between buying a government bond in order to collect the interest it earns and buying the same bond in the belief that interest rates are about to drop and the bond's value will skyrocket.
One interesting thing to note is the pattern of exceptions to the attempted characterizations. Most of the exceptions were people who were doing investing-related things but weren't behaving like investors, or people who were doing gambling-related things but weren't behaving like gamblers. Of the four groups, recreational investors, professional investors, recreational gamblers, professional gamblers, there are more similarities between the two recreational groups and between the two professional groups than between the two investing groups and between the two gambling groups. Specifically, those who use a rigorous system, do research, tilt the odds in their favor, treat it as a business rather than as entertainment, avoid addiction, and keep their emotions in check tend to behaving like investors, and those who don't tend to be behaving like gamblers. It might not be such a stretch to call professional gamblers 'investors' and recreational investors 'gamblers'.
A Third Option: Speculating
Another possibility is that the two terms 'gambling' and 'investing' aren't sufficient to cover the entire range of activities under consideration. A third term, 'speculating', is often used to straddle the two, specifically to handle activities that would ordinarily be considered investing but are done in a way that make them feel more like gambling.
In The General Theory of Employment, Interest, and Money, John Maynard Keynes defined speculation as "the activity of forecasting the psychology of the market", and speculative motive as "the object of securing profit from knowing better than the market with the future will bring." Many people consider billionaire George Soros to be an investor, but he prefers the term speculator. In fact, he has said that "an investment is a speculation that has gone wrong." What he means by this is that, among speculators, an 'investment' is the name they give to a speculation that didn't work out the way they expected and that left them stuck with a position they hope will improve with time. Soros and other speculators make their predictions partially based on market psychology, and in this respect their behavior fits perfectly with the Keynes' definition of speculation. But there is much more to speculating than just interpreting market psychology, and this definition isn't sufficiently distinct from the ones we formulated for gambling and investing in the above section.
According to the dictionary on my bookshelf, speculation is "the engagement in business transactions involving considerable risk for the chance of large gains." By this definition, the entire distinction rests on the degree of risk and size of potential gains. In support of this definition, bond rating agencies commonly use the term "speculative" to refer to high-risk bonds (those rated below BBB by S&P or Baa by Moody's).
In their book Investments, Zvi Bodie, Alex Kane, and Alan Marcus argue that "a gamble is the assumption of risk for no purpose but enjoyment of the risk itself, whereas speculation is undertaken in spite of the risk involved because one perceives a favorable risk-return trade-off." But this is too simplistic... no one would play casino games if the only possible outcomes were either breaking even or losing; the rush they experience comes from the possibility of winning and not merely from the taking of risk. They continue: "To turn a gamble into a speculative prospect requires an adequate risk premium for compensation to risk-averse investors for the risks that they bear. Hence risk aversion and speculation are not inconsistent." This part I agree with. In fact, whether they realize it or not, their definition reclassifies gambling as speculation when the odds can be sufficiently tipped in the player's favor, such as in professional blackjack or poker, which fits in nicely with argument made in the previous section.
Zvi Bodie et al appear to be saying that in order to be speculating rather than gambling, the person must not take greater risks than are justified by the potential reward. Others say that in order to be speculating rather than investing the person must be taking greater risks than are justified by the potential reward. For example, in Benjamin Graham and David Dodd's classic Security Analysis, they argue that "an investment operation is one which upon thorough analysis promises safety of principal and an adequate return. Operations not meeting these requirements are speculative." Both positions are defensible. But perhaps a better interpretation would rest on the realization that different investors have different tolerances for risk. Perhaps speculators are those who are risk-neutral, while gamblers are risk-seekers and investors are risk-averse. While adding the term 'speculation' to the mix might have some value, it probably adds more confusion than clarification, so I prefer to leave it out and focus on just 'gambling' and 'investing'.
Conslusions
So what's my resolution to this definition conundrum? Well, the purpose of words is to communicate concepts. So it doesn't really matter what definitions you use, as long as you and the person(s) you're communicating with are clear about what is meant by those words. And even more importantly, as long as you know what you're doing, investing or gambling, before you do it.
But with that said, it would be beneficial if everyone could agree on what the terms mean, so we don't need to make our definitions explicit every time we want to use them. To this end, I offer the following definitions, which are built from the various characterizations in the above section:
Investing - "Any activity in which money is put at risk for the purpose of making a profit, and which is characterized by some or most of the following (in approximately descending order of importance): sufficient research has been conducted; the odds are favorable; the behavior is risk-averse; a systematic approach is being taken; emotions such as greed and fear play no role; the activity is ongoing and done as part of a long-term plan; the activity is not motivated solely by entertainment or compulsion; ownership of something tangible is involved; a net positive economic effect results."
Gambling - "Any activity in which money is put at risk for the purpose of making a profit, and which is characterized by some or most of the following (in approximately descending order of importance): little or no research has been conducted; the odds are unfavorable; the behavior is risk-seeking; an unsystematic approach is being taken; emotions such as greed and fear play a role; the activity is a discrete event or series of discrete events not done as part of a long-term plan; the activity is significantly motivated by entertainment or compulsion; ownership of something tangible is not involved; no net economic effect results."
Speculating - I would prefer to avoid this term entirely, but if necessary I would define it as "Investing or gambling characterized by a high degree of risk and a high potential for reward."
Are you disappointed that I didn't crystallize the essence of gambling and investing into a single distinguishing feature? Did I merely sidestep the ambiguity, and sweep the gray areas and the important exceptions under the rug? I don't think so. The taxonomy doesn't have to be completely distinct in order to be useful, nor does it need to be just a single feature. And just because some of the characterizations had exceptions doesn't mean they should be thrown out entirely. Nearly everyone agrees that the concept of 'chair' is a useful one, even though it's difficult to define exactly what the necessary and sufficient characteristics of a chair are.
Why Does it Matter?
- Lawmakers and regulatory bodies need to be clear on what the terms mean, so they understand the scope of their legislation and regulation, regarding prohibited behavior, adequate disclosure, participant protection and similar issues. In general, I'm in favor of less regulation and more disclosure for both activities described as gambling and those described as investing, but I'm no expert on the subject and a thorough discussion is beyond the scope of this essay.
- Everyone needs to realize how easy the internet makes it to gamble under the guise of investing. When people use generic terms without ever specifying what they mean, it's easy for those terms to gradually change in meaning, and I think that's exactly what the internet is causing to happen. I don't mean to imply that the internet's democratization of investing is a bad thing. In fact, I think it's the one of the most important developments in the history of investing. My hope in pointing this out is to awaken those individuals who are acting like gamblers but who think they're acting like investors.
- Investing addiction is as serious as gambling addiction, and should be treated as such. If more people start to view buying and selling stocks online as a way to get the betting rush that previously required a trip to a casino, is there any reason to think the same negative consequences that follow gambling won't also follow investing? Perhaps investing addiction is not getting the attention it deserves because most people are attaching to it all the positive connotations of investing and none of the negative connotations of gambling.
- Those who have ethical problems or religious issues with gambling (or even investing) owe it to themselves to figure out exactly what they object to and why. As I mentioned, I have no such ethical problems with either gambling or investing, but again, this discussion is beyond the scope of this essay.
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