Streettalk:Why Poker Players Make Great Investors - Both must learn to analyze things on a probability basis and to control their emotions - BioPharm International

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Streettalk:Why Poker Players Make Great Investors
Both must learn to analyze things on a probability basis and to control their emotions


BioPharm International
Volume 19, Issue 10

Nelson has a point. In poker and investing, you have to have a game plan and the patience and discipline to stick to it. You have to minimize your losses and maximize your gains. You must understand the probabilities involved. You must understand human nature, especially your own. And you must be able to control your emotions.

If you can't, you'll wind up the type of risk-taker who confuses luck with skill, and who doesn't know when to leave money on the table and walk away.

UNDERSTAND MONEY MANAGEMENT

Your success at investing, as in poker, also has a lot to do with evaluating risk and exercising good decision-making skills based on risk evaluation.

There is, after all, a great deal of risk when you buy stocks. First and foremost, the value of your stock may go down, even disappear. But that doesn't happen often, especially if you do your homework and invest in companies that make good products, have good management, and generate solid profits. Still, as part owner of a given company, you're taking more risk in actually owning the stocks than you are if you, for example, loan a company your money in the form of a bond investment. At least with bonds, there's a guarantee built into your investment that you'll get your principal (the amount you invested) back, plus accrued interest. It's set in stone.

Stocks aren't like that. There's no flat-out guarantee that you'll earn any money. Heck, you can even lose it all. If the company pulls an Enron and goes bankrupt, shareholders are among the last folks to get their money back, behind the armies of bankers and lawyers and IRS agents standing in line ahead of you. If there's anything left, the shareholders can divvy the proceeds up. But by then, after the professional vultures have filled their bellies, there's usually nothing left on the carcass of any value.

That's the bad news. The good news is that, sooner or later, the stock market will notice the company you diligently researched and invested your money in. It rewards the company and its shareholders by increasing its value by raising the price of the stock. When a stock price goes up, that means demand for the stock is high. Since more folks want to be like you and own your stock, the price of the stock goes up correspondingly. It's all supply and demand, folks. If you really harness your portfolio to a winner—Microsoft, Google, or Wal-Mart—the return on your investment can go much higher than the 11% or 12% that stocks historically earn. Those stories about Microsoft secretaries retiring as multimillionaires aren't urban legend. Plenty of people who bought that stock early and hung on to it saw their investments rise astronomically. But that's the payoff for taking more risk with your investments.

There's the risk factor again. After all, nobody wants to fold; they want to be aggressive and raise and win the big pot. But in the average neighborhood poker game, there may be only 30, 40, or 50 hands in a given night. In poker, your mathematical probabilities estimate that in a game with 50 hands and five players, you'll draw the best hand roughly once every five hands. Consequently, four out of five hands you could very well be folding. In a game with 50 hands, that means 40 of them you're cooling your heels on the sidelines. That's 80 percent of the time.

For the average player who may sit down with his or her friends only once a month or so, it goes against human nature to back down 80 percent of the time at the poker table. People want to get in there and swing the bat, take the shot, go for the gusto. If not, where's the fun? But in poker, as in investing, the best players are the ones who have the patience and discipline to fold a bad, even mediocre-to-decent hand

Good poker players and good stock traders know that exercising risk probability scenarios, and using the information found in such scenarios to accept some losses, is the single most critical strategy they have in their arsenals.


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