Trading is Not Gambling

Trading is Not Gambling

October 4, 2017

Guys around here will tell you: you play for a living, it’s like any other job. You don’t gamble; you grind it out.

-Mike McDermott


One time, a while ago, I was talking about stock trading to one of my work friends.

He asked me about the stocks I was trading, so I asked him the same thing. He said he doesn’t do anything with stocks anymore because one time in 1986 he lost a bundle in the market. He had learned his lesson: no more gambling.

I’ve always been interested why he looked at it that way. Buying Index Funds (a fund that takes positions in all the stocks in the S&P 500) is definitely stock trading. And every smart financial person in the world recommends Index Funds to every investor who has a pulse.

At the same time, nobody is recommending that we regular people devote 40% of our net worth to playing roulette. How come? Because roulette is gambling.

Then why are Index Funds okay? Because, ostensibly, they’re not gambling.

So my work friend calls trading stocks gambling but billionaire geniuses say trading stocks is not gambling.

Which is it?

The difference comes down to the odds and the trader’s intent.

What are gamblers looking for? What’s their motivation?

Gamblers are looking for a lottery-like payoff, something they don’t deserve.

If we put $10,000 down on black at the roulette table, we don’t deserve to win. Over time, our odds of winning one spin after a bet of red or black are just 47.37%. Yes, we might win that one time, but we know we can’t win long-term. If we’re playing the long game, we’re guaranteed to be losers.

And that’s the thrill of it. If we put $10k down and win, we’re being naughty, doing something we know we shouldn’t do. If we get away with it, we’ve successfully whistled past the graveyard and come out the other side. That’s a rush, and some people love that rush.

There’s nothing thrilling about a safe investment. We know we’re going to win. Nothing naughty about that. Putting our money in a savings account or a Treasury Bill is boring beyond belief. There’s no chance we’re going to somehow make 100% on our money. No, we’re going to make 1.2% on our money–and that’s it.

But trading is not a savings account. There’s no guarantee in trading. So is it gambling?

Yes and no.

Picking a random penny stock and holding it is gambling. Again, we look at the odds and the trader’s intent. The odds of that one penny stock increasing ten-fold are unknowable. It might, but it probably won’t. And the intent is to make it big by getting lucky.

No odds plus wishing for incredible luck equals gambling.

How about picking a “regular” stock? If it’s a random pick, it’s not much different. It may not go to $0, but we have no basis for thinking it will triple either.

If it’s not a random pick, what then? First, what are the odds? On the fundamental side, how many stocks have had the same fundamentals of the stock we like, and then went on to double within a year? If we don’t know, we’re gambling. Our intent is still to get lucky.

If we do know, then we’re making an educated guess and we’re trying to make an informed decision. If we know our odds, we know when to get out if it’s going badly, and we know when to take our profits when it’s going well. And we’re ready to try again with our next informed pick when this one is over.

Our odds are, say, 28% that it might double in a year and our intent is to play the odds enough times to potentially get that payoff.

It’s a lot less exciting but a lot less risky.

What if we’re trading systems?

If our trading system is a robot we bought off the internet from someone we don’t know, then we’re gamblers. We have no idea of the research behind that robot, and our goal is to catch a windfall from a mysterious, automated stranger.

But if we’re trading a system with deeply analyzed data, then we know our odds of success up front and our goal is to patiently ride those odds to success.

We don’t go to regular jobs hoping today it’s announced that we’ve won $100 million. We go to regular jobs knowing that the odds of that job producing a certain amount of income are high and our goal is to accumulate that income.

Trading is the same way.

If we know our odds and aren’t in it for the thrill, it’s not gambling and don’t let anyone tell you differently.