Sometimes in order to broaden your investing approach you need to go outside financial websites and blogs and look to other forms of literature. In this blog I will be doing that from time-to-time starting with my first book review here.
To kick things off I chose to review a fabulous book by Annie Duke titled Thinking In Bets. This book walks through the phycology and mental strategies used in high stakes, winning poker. Mrs. Duke herself is a highly accomplished poker player having won the coveted World Series Of Poker and many millions of dollars over the course of her professional playing career. So, what can we learn from a poker player that is applicable to stocks?
Stocks and poker are more similar than most people realize. The mental fortitude that it takes to be a professional poker player is nearly identical to the skill needed to effectively trade stocks.
In her book Mrs. Duke talks extensively about the difference between luck and skill in the game of poker. She provides a few examples where players were simply lucky and won. She also contrasts this to situations where players were skilled and won. Some people might wonder why it matters how you won at all? Well… how you win (both in poker and stocks) is the MOST IMPORTANT THING.
Let me give you an example. I had a coworker who made a lot of money trading options using technical investing patterns over the course of a year. He started with a few thousand dollars and turned it into a few hundred thousand dollars. His strategy was going well until all of a sudden it didn’t work anymore. In a span of a few months he lost a hundred thousand dollars and decided to pull the plug. When I talked with him about it later, he told me he knew he was simply “lucky” and would lose all his money if he continued to invest in uneducated trades.
Mrs. Duke makes it very clear in her book that in poker the same rules apply. A “lucky” player will eventually lose all their money, while a skilled player has at least a chance of winning the game. Luck runs out in poker just like it does in stocks if you wait long enough.
Mrs. Duke also discusses the concept of thinking about negative outcomes in order to properly shape the size of your bet in a poker game. Similar to deciding on the size of stock investment, knowing the amount of money you are risking and the possible amount you could lose is what is more important than thinking about the potential size of the gain. In poker the best players decide when and how to bet based on the potential magnitude of their losses. I guess it’s really not like the movies where pushing all your chips to the center of the table with a pair of eights is the way to go!
One thing that really surprised me a lot about this book was the discussion about poker strategy and how top players rely on conversations with other top players about specific games to understand how and where to improve their play. According to Mrs. Duke she relied extensively on conversations with other top players to become a true champion. While to some people this might seem like telling your opponent your secrets. However, when you step back and realize the enormous benefits you can gain in learning, the risks of giving up “secrets” really don’t seem that important.
Trading can also benefit from a group think mentality as well. As people we all have some inherent biases in our logic. Talking with other investors about your unsuccessful as well as successful trades might help you understand where you might improve in your trading strategy. While you might worry that this could arbitrage away your million-dollar strategy, it could also save you from a flawed approach that might leave you penniless in the future.
Thinking In Bets is a perfect book to read if you want to expand your horizon on mental strategies involved in stock investment. Making the connections between poker and equities helped me sharpen my approach to investing and can do the same for you.