Casinos operate on the simple principle that gambling, over time, is a losing endeavor. They ensure it. Your loss is the casinos gain.
Why is that? They design the games to favor the house, not the player. Anyone can place a bet, beat the odds, and win. The casino expects to lose on some bets in the short term.
But over thousands of spins of the wheel or rolls of the dice, your bankroll gets ground down to nothing and the casino comes out ahead.
That fact doesn’t stop people from gambling though. Some combination of entertainment, ignorance, overconfidence, optimism, and dumb luck keep people gambling and casinos in business.
The same reasons explain why people speculate in markets. Unfortunately, the outcome is same. Which is why the analogy comparing investors to casinos is so apt:
Common stocks can prove highly profitable to those who buy them — to those who choose them carefully and consider them as investments. I would not, however, recommend that anyone spends a penny on stocks for purposes of speculation. I cannot hold out much hope for those who buy stocks in companies about which they know little or nothing on the basis of a tip. Such people expect to make a killing — but instead, they are lambs leading themselves to the slaughter…
The stock market is not a gambling den. Nonetheless, it might be said that speculators bear somewhat the same relationship to investors that roulette players bear to the owners of a casino. Speculators — like roulette players — are simply gambling, hoping that they’ll guess right and hit a lucky streak. Investors, like casino owners, sit back calmly, coolly, and confidently, knowing that the house odds are working inexorably in their favor.
To put it another way, the former are betting on the weather, while the latter are banking on the climate. The weather is notoriously temperamental and changeable. At best, it can be predicted only a within a certain limit and only for very short periods in advance. The climate, on the other hand, follows an established and predictable pattern year after year and decade after decade. It takes only a single, sudden storm to wipe out a speculator. The seasoned and sophisticated investor handily rides out even protracted spells of foul weather, because he has made allowances and provisions for them in his long-term calculations. — J. Paul Getty
How do you invest more like a casino? Avoid speculation for one. A few things come to mind that give you a better than even chance to come out ahead in the long run:
- Save Regularly – A regular savings program is the foundation to long term investment success for three reasons. First, the ability to save money every month and put it to work for you gives you the best chance to reach your investment goals. Second, the higher the savings rate, the lower your dependence on taking more risk and needing a higher return to accomplish that task. Most importantly, having separate savings to draw from when emergencies pop up (i.e. an emergency fund) allows your investments to compound uninterrupted over time.
- Think Longer Term – Stretch out your time horizon. Instead of thinking weeks or months, think years and decades. The further out you look and plan for, the less you need to worry about and react to the regular market storms that pop up in the short term. The upside means less trading and fewer big mistakes that hurt your returns.
- Lower Costs – Fees are a drag on returns. It’s not that lower fees are always better but lower fees relative to similarly performing investments. Fund fees, sales charges, and other hidden fees compound like returns but work against you. Lower is better, all else equal.
- Asset Location – Taxes are another cost that may be reduced by matching how investments are taxed with the proper account type (taxable vs. tax-advantaged accounts). Additional tax strategies like tax-loss harvesting may be applied if it lowers your overall tax burden further. It’s a simple way to keep your money compounding in those accounts instead of being paid out in taxes.
- Rule-Based Portfolio – A predefined set of rules for any portfolio, when followed, is the best way to reduce costly mistakes. The rules ensure discipline by reducing the negative impact from emotional decisions driven by fear and greed, and other biases on your portfolio. A smart rules-based process should be designed with your behavioral strengths, weaknesses, and comfort-level in mind.
- Factor Bets – Research suggests a fund tilted toward factors like momentum, value, quality, etc. should perform better over time compared to a similar market cap weighted fund. Fund structure and fees matter. Make sure the factor(s) used have a logical behavioral explanation for why it works and that the higher fees don’t offset the potential higher return. Factor bets are not a guarantee but may enhance a diversified portfolio in the right context.
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