A Casino Where You Can Beat the Dealer

Casinos exist to satisfy fantasies of winning large amounts of money in a quick way. But that is all it is, a fantasy. At the end of the day, they are businesses built to make a profit on probabilities over time. The probabilities are just high enough in the games so people are willing to take the risk of losing their money for the potential payoff of winning big. Now, I will not make a case for or against this business practice. I will identify the similarities I see between how a casino works, and how the financial industry drives the public to treat this industry. There is one huge difference though, the financial industry is a quote “casino” where it may be possible to beat the dealer over enough time.

First off, why would I consider the public markets a casino? Well, it is the way they are treated by society in ebbs and flows. The companies/people that work to inform the public about investing (whether it’s a media company, financial professional, or online individual making content) tend to guide people into currently popular ideas and usually the cheers build the higher the price goes. Statements like “don’t trade blank, but own blank” have been used for longer than most know. Back in the day, there was a group of stocks called “the nifty fifty” that were treated in a similar way to the statement above. Now over the decades, those stocks have done decent and some have been stellar. Overall, once the cheers faded these companies were hit harder than most in the 1970’s. Learning from this is important, the “casino” influenced the decision. Aka, people believed in the dreams of wall streets’ precious babies never having a hiccup. So how can we beat the dealer if we make the same mistake?

If none of you have heard of Mr. Market, I will briefly review. Mr. Market is available Monday-Friday almost every day of the year (outside of holidays). He is there to give you quotes on all sorts of financial assets, you can choose to ignore him or take advantage of his prices. Mr. Market is actually a very emotional figure. Somedays he is euphoric and others depressed; and these emotions change literally daily. By the sounds of it, Mr. Market has more emotions than a 14-year-old. I would second that statement. Mr. Market is the blackjack dealer, the talking-heads of wall street are his salesmen to get us inside the casino. Understanding that Mr. Market is manipulative is our first step in an effort to beat the dealer.

Mr. Markets’ opportunities being offered are more often where few are looking, and even better ones are when Mr. Market is in a manic depression. There are always areas where few are looking for all sorts of different reasons. Usually, those things are going through their hiccups at the time. In these situations, always pay attention to the WHY instead of the price move first. Sometimes, it just isn’t justified. The longer you are willing to wait, the more time you have to watch your expected analysis hopefully play out. Making an investment far from guarantees success, but patience allows your view to play out in the market place over time. Thus, the second lesson on beating the dealer is having more patience than the dealer. Aka invest in businesses and don’t trade stocks. Although some can have success trading, this is something I cannot get behind because I have not found success in this strategy.

Why do I not define trading as beating the dealer? Because I believe the markets are built for the dealer to win when there is more trades being placed. This is because the market makers make their money on the “spread” between buys and sells. The more shares that are traded, the more they make. The system is incentivized to have you think that what you own is not as good as something else that is similar. This can easily be the case, but it isn’t what you own it is how much you paid for it that is the key factor. Don’t fall for the fallacy that you have to make a move every time something happens to what you own. Bad quarters are inevitable to take place, but good businesses have historically came out on the other side stronger. The key is to make sure you own a good business; then, don’t be afraid to continue to own it even when the market is telling you not to. The market is not always right, so don’t fall for this conclusion just because your holdings have done worse than the market since you purchased it. Especially if it is a business you enjoy, or believe is worth owning over the long-term. So, the third lesson is don’t be afraid to be different. Acting differently than the dealer could give you an upper hand on the dealer over time.

So how can we all beat the dealer? Well, being honest, we can’t all beat the dealer. Some will do better; some will do worse but why? It is the emotional difference between the people investing. Allowing your emotions to dictate your investment decisions is a long-term detriment to your investment returns. If we all could beat the dealer, then the dealer wouldn’t exist in the way it does. The dealer exists to facilitate your trades, and the more trades you make the more they make. When your emotions get to you, you are giving these “dealers” business. Whether it’s good or bad doesn’t matter to them, they are incentivized for you to make the trade. So, making the right trade is the key, and sometimes that “trade” is to literally do nothing. A good business can go down in price at any point, are you going to be the one to sell it when everyone else wants to as well? If so, you will get Mr. Markets emotional price. Selling your shares into Mr. Markets emotion is a great way to lose to the dealer. A better way could actually be to buy more of the good business at a lower price. Because once again; it’s not what you buy, it’s how much you paid for it!

Lastly, lets briefly review the margin of safety. Some might tell you this is setting a stop loss below your purchase price to get out before the stock drops further. What happens though if the stop loss triggers towards the bottoming process in the stock? Well, you were just forced out of the business you wanted to own at a low price because you were afraid of losing money. In professional investing, this can be a great strategy if you are trading stocks. For long-term investing, this sometimes can be a huge detriment. Why? Well investing’s true margin of safety is discounting the BUSINESSES FUTURE PROSPECTS. Aka, what do you think the business will do? Then you discount what you think will happen. This is because no one knows the future; it would be far from wise to believe what you think, is what will happen. The true risk in owning a stock is complete loss of capital (Aka, bankruptcy). So before investing, look at the company’s BALANCE SHEET. Understand the whys within it, and if you can’t you should consider finding a qualified professional you trust to do so. The balance sheet gives you clues into the true risk, completely losing your invested dollars in the asset. Use a margin of safety not to cut your short-term losses, but to hedge against a complete loss of capital. When you build a bridge, insist it can carry 30,000 pounds but only drive 10,000-pound trucks across it.

At the end of the day, beating the dealer is far from easy. It is much easier to talk about how to beat Mr. Market than to actually do it. Take these words with a grain of salt, the points do not guarantee you to beat the market. We will all still make bad decisions, but over time if you invest with these points engrained in your strategy, I believe you can have an increased chance of beating the dealer. Now, will you? No one knows. Nonetheless, I believe investing with these points in mind will make you more comfortable with what you own whether you beat the dealer or not. This is because you know more about what you own, so you become less worried about the unknown future we all have to face. If done correctly, then you will preserve and insulate yourself from the emotional decision-making process hopefully allowing for the upside to take care of itself. Happy investing to all and would always enjoy a discussion with anyone who is willing to give me their points of view as well. At the end of the day, we can all learn from each other so lets’ take advantage of it!

Riley Sisson

Branch Manager, RJFS

Any opinions are those of Riley Sisson and not necessarily those of Raymond James.

Keep in mind that there is no assurance that any strategy will ultimately be successful or profitable nor protect against loss. Every investor's situation is unique and you should consider your investment goals, risk tolerance and time horizon before making any investment. Prior to making an investment decision, please consult with your Financial Advisor about your individual situation.