Poker and financial markets have a number of similarities.
Both require an understanding of risk and reward, and the ability to make decisions based on incomplete information (and often quickly and under pressure).
You have a certain set of knowns (often small relative to the range of unknowns) and are looking for situations where you have an edge, whether that’s statistical or otherwise.
In poker, players must constantly weigh the potential rewards of making a particular move against the potential risks.
Similarly, in financial markets, investors must consider the potential gains and losses of an investment and make decisions accordingly.
In fact, they can be good cross-training activities.
There is some level of skill overlap, and it’s not a coincidence that successful investment managers have also been very good at poker (e.g., David Einhorn, Greg Jensen, Carl Icahn, Steve Cohen).
Academic studies have shown that hedge fund managers who win poker tournaments have better fund performance (though not necessarily following the win).
One key concept in poker is the understanding of pot odds.
Pot odds refer to the ratio of the current size of the pot to the cost of a contemplated call.
Players must use pot odds to determine whether it is profitable to call a bet, or whether it is better to fold.
This concept can be applied to financial markets by considering the expected return on an investment versus the potential risks. This is also known as risk/reward.
Another important aspect of poker is the ability to read other players and understand their motivations.
In a game of poker, players must be able to identify when their opponents are bluffing, and when they have a strong hand.
In financial markets, investors must also be able to read market trends and understand the motivations of other market participants.
This requires an understanding of who the big players in a market are and what their motivations are in order to determine how they’re likely to act and hence how a market is likely to move.
This requires an ability to analyze market data to make informed investment decisions.
In both poker and financial markets, the ability to manage risk is crucial.
In poker, players must manage the risk of losing their chips, and must make decisions that balance the potential rewards against the potential risks.
Likewise, in financial markets, investors must manage the risk of losing money on an investment or overall portfolio, and must make decisions that balance the potential returns against the potential risks.
This requires an understanding of the factors that can impact the markets, such as economic indicators (e.g., growth, inflation), geopolitical events, and market trends.
Level of Control
One key difference between poker and financial markets is that in poker, players have more control over the outcome of a hand.
In financial markets, the outcome is determined by a number of factors beyond an individual investor’s control.
This is why some investors prefer to have more control over their investments, whether that means investing in their own business, activist investing, among other ways to use processes and know-how to create value.
Knowing When to Cut Your Losses
In both finance and poker, knowing when to cut your losses is a crucial skill.
In trading/investing/finance, cutting your losses refers to getting rid of something in order to minimize your potential losses.
This can be a difficult decision, as traders/investors often hope that the security will recover and return to its original value.
However, it’s important to understand that holding onto a bad investment can lead to further losses, and that cutting your losses can help minimize the overall impact on your portfolio.
In poker, folding refers to the act of dropping out of a hand and giving up your chance to win the pot.
This decision is also often difficult, as players hope to improve their hand and win the pot. It’s especially hard when you’ve already committed chips to it.
However, it’s important to understand that holding onto a weak hand can lead to further losses (i.e., putting more money into a pot in a way that doesn’t compensate you based on the risk/reward characteristics). Folding can help minimize the impact of those losses.
Like in trading, it’s okay to lose a little bit because the upside you take on is greater than the potential loss.
For example, if you have 5:1 pot odds but a 30% chance of winning a hand, this reflects favorable risk/reward even if you’re not likely to win in it in the end.
Both cutting losses in finance and folding in poker require an understanding of when to prioritize risk management over potential rewards.
In both cases, the decision to cut losses or fold is often made when the potential rewards are outweighed by the potential risks.
This requires a clear understanding of the current situation, and an ability to make informed decisions based on incomplete information.
In both finance and poker, cutting losses and folding early can be advantageous in the long run.
By minimizing potential losses, investors and players can preserve their capital and maintain the ability to make future investments and bets.
This can help increase the overall chances of success and reduce the impact of any losses.
The best pre-flop hand in poker is considered Ace-Ace. The worst is considered 2-7. But even 2-7 can beat A-A around 12% of the time.
There is some amount of luck and randomness involved in poker.
There are times when someone has only a 1/52 chance of winning a hand (i.e., based on the result of the river card) and ends up pulling it off.
Understanding randomness is important in both poker and trading/investing, as it helps individuals make informed decisions and manage risk.
In poker, the outcome of each hand is influenced by chance, and players must understand this randomness in order to make informed decisions.
This requires an understanding of the odds of certain hands being dealt, as well as an understanding of the behavior and tendencies of other players.
By taking these factors into account, players can make informed decisions about when to bet, call, or fold.
In trading and investing, understanding randomness is also crucial. Financial markets are influenced by a variety of factors, which can lead to unpredictable price movements.
As a result, it’s important for traders and investors to understand that market outcomes are influenced by chance, and to be prepared for the possibility of unexpected events.
This requires an understanding of the risk associated with different types of investments, as well as an understanding of what influences markets (e.g., growth, inflation, among other things) and the behavior of other market participants.
One key aspect of understanding randomness in both poker and trading/investing is the ability to manage risk.
By recognizing the role of chance in determining outcomes, individuals can make informed decisions about when to take on risk, and when to minimize it.
This requires knowing the potential rewards and risks associated with each decision, as well as recognizing what isn’t known and can’t be known.
Another important aspect of understanding randomness is the ability to accept losses.
In both poker and trading/investing, individuals must be prepared for the possibility of losses and understand that they are an inevitable part of the process.
By accepting losses as a natural part of the process, individuals can make informed decisions about when to cut their losses and minimize potential harm to their portfolios.
In the end, don’t be fooled by randomness. Just because you lost 5% of your money doesn’t mean your strategy is necessarily bad (it could be, but it can’t be known without more information).
Every hand (or most hands) won’t go your way in poker sitting at a table with multiple people.
And markets won’t go in your favor every day and you will have lots of mistakes over time when it comes to asset or security selection.
Winning Is Never Continuous or Linear
In both poker and financial markets, success is influenced by many variables and uncertain events, which can cause fluctuations in the outcome.
Winning in these areas is never continuous or linear because of the following reasons:
- Other players’ decisions and strategies can greatly impact the outcome of a hand or game.
- Probability and luck play a role, and there will always be some degree of unpredictability.
- Even skilled players can experience streaks of losses and wins.
- The markets are constantly influenced by a multitude of factors, such as economic indicators, news events, and company performance.
- No one can predict the future with complete certainty, and events like natural disasters, political unrest, and market crashes can cause unexpected changes in the markets.
- The stock market in particular is known for its volatility, where prices can fluctuate dramatically in a short period of time.
Therefore, it is important to understand that success in both poker and financial markets is not guaranteed and can never be predicted with complete accuracy, making it neither continuous nor linear.
Can you gut out drawdowns?
Every successful trader/investor or poker player knows it’s part of the game.
However, if you’re suffering drawdowns that are significant, you may need to check your strategy.
Focus on Positive Expected Value
Positive expected value (EV) is a crucial concept in both poker and financial markets, as it represents the average amount of money that can be expected to be won or lost over a large number of hands or trades.
(We covered more about expected value here.)
In poker, positive expected value occurs when a player makes a decision that has a higher probability of winning than losing, in the long run.
For example, if a player has a higher probability of winning a hand than the pot odds being offered, they should make the bet, as it has a positive expected value.
By making positive expected value decisions, a player can increase their chances of winning over the long term.
In financial markets, positive expected value refers to the expected return of an investment, taking into account both the potential return and the potential risk.
An investment with a positive expected value means that, on average, the investor can expect to make a profit over the long term.
The goal of many investors is to identify investments with a positive expected value, so they can maximize their returns and minimize their risk.
Therefore, positive expected value is important in both poker and financial markets because it helps individuals make informed decisions that have a higher probability of success over the long term. It is a key principle for maximizing profits and reducing losses.
Which leads to…
Focus on the Long-Term over the Short-Term
Focus on the long-term, rather than the short-term, is crucial in both poker and financial markets.
This is because success in these areas is often a result of consistent, informed decisions over an extended period of time, rather than quick wins.
In poker, players who focus on the short term are more likely to make impulsive decisions based on emotions, rather than using sound strategy.
This can lead to inconsistent results and decreased profits over the long term.
On the other hand, players who focus on the long term are more likely to make consistent, calculated decisions, which can lead to increased profits over time.
Focusing on sound play over 100 hands may not work because it’s too small of a sample size. But over 100,000 hands, if you’re making positive expected value decisions you’re bound to have good results.
In markets, short-term thinking can lead to impulsive buying and selling decisions based on market fluctuations or emotions.
This can lead to increased risk and decreased returns over time.
On the other hand, long-term thinking encourages investors to make informed decisions based on comprehensive research and analysis, leading to a more consistent and successful investment/trading strategy.
Example: Bluffing in Poker
In poker, if you pull a big bluff that didn’t work out, that’s a short-term loss.
But if you can consider the implications beyond just one hand, one table, or one tournament, it can be a positive.
If you run into that player or set of players in the future, they’ll know that you can be unpredictable and don’t just value-bet every hand. Accordingly, that can be a long-term advantage.
A conversation about trading, chess, poker, and risk
There Is No One Right Way
There are many, many ways to make money in the markets and many ways to have success in poker.
Many poker players do well simply based on feel or intuition. Others play in a way that’s more game theory optimal. Others excel at exploitative play by being able to read their opponents. Others know how to push their opponents off their hands with timely bluffing.
There is no one right way to play the game of poker or trade the markets, as both involve a constantly changing landscape of variables and players.
As a result, the best players in both arenas are able to adapt to changing circumstances and make sound decisions over time.
FAQs – Poker vs. Trading
Are poker and trading both zero-sum games?
Poker and trading can both be considered zero-sum games under certain conditions.
In a zero-sum game, one player’s gain is exactly equal to the other player’s loss.
In poker, if two players are playing a heads-up game with no rake (a fee taken by the house), the sum of all the money in the pot is constant and one player can only win what the other player loses.
Similarly, in a perfect market, where all participants have equal access to information and resources, returns in trading are zero-sum, as any profit made by one trader must come at the expense of another trader’s loss.
Adding alpha, or generating positive returns in excess of the market average, is a zero-sum game because for every trader who generates alpha, there must be another trader who underperforms the market by the same amount.
This is because the market return is the sum of all participants’ returns, and if one participant outperforms the market, another participant must underperform the market.
However, it’s worth noting that not all markets are perfect, and some traders may have advantages such as access to better information or resources, which can allow them to generate alpha without it being a zero-sum game.
Beta, on the other hand, is simply market returns. Beta can be positive or negative, but is usually positive over the long-run as economies tend to grow over time, which in turn tends to reflect in financial market gains.
How are poker and trading similar?
Poker and trading have a number of similarities that make them appealing to some people as similar forms of competition or skill-based games.
Both poker and trading require a player or trader to manage risk effectively.
In poker, players must determine the risk/reward of each hand they play, balancing the potential gains against the potential losses.
Similarly, traders must assess market risk, diversifying their portfolio and using things like options and stop-loss orders to limit potential losses.
Both poker and trading require a player or trader to think probabilistically, considering the range of possible outcomes and making decisions based on the odds.
When it comes to poker, players must calculate pot odds and consider their opponents’ ranges of possible hands to make informed decisions.
Traders must consider market trends, economic indicators, and other factors to make informed decisions about investments.
Both poker and trading require a player or trader to be adaptable, adjusting their strategies and tactics as the situation changes.
In poker, players must adjust their play style based on the actions of their opponents, the size of the pot, and the current stage of the hand.
In trading, traders must adjust their strategies based on changes in market conditions and economic indicators.
Both poker and trading can be emotionally challenging and require a player or trader to maintain a certain equanimity.
Poker players must remain calm and focused under pressure, avoiding tilt (becoming too emotional and making poor decisions) even when losing hands.
In trading, traders must maintain discipline and avoid impulsive decisions, even in volatile market conditions.
Overall, while poker and trading are different in many ways, they both require a combination of skill, strategy, and mental toughness to be successful.
Both also have elements of risk and reward, and both require players or traders to make decisions based on incomplete information and uncertain outcomes.
Is investing/trading more difficult than poker?
Investing and trading can be more complex and multi-dimensional than poker.
In investing and trading, there are a variety of factors to consider, and many unknowns and “black swan” events that can come up (e.g., natural disasters, wars, pandemics).
These factors can change rapidly, creating a constantly shifting landscape that can be difficult to navigate.
In contrast, poker is primarily a game of probability and strategy, where each hand is resolved in a matter of minutes. In investing, you generally have to think on a multi-year timeframe.
The outcomes in poker are typically determined by the players’ decisions and the cards they are dealt, rather than by external factors.
However, both investing and trading and poker require discipline, strategy, and the ability to make quick decisions based on limited information.
The game of poker can be an excellent tool for developing skills that are relevant to the financial markets.
Understanding the concepts of risk and reward, pot odds, psychology, and risk management are all important skills that can be honed through playing poker.
Being good at poker entails a lot of time practicing, learning the game and the odds, and doing the calculations.
By applying these skills to financial markets, traders/investors can make better-informed decisions and increase their chances of success.