Investment advisors are loath to compare their business to gambling, and it is true that they are very different. However, there are some very interesting parallels between the two, and a close evaluation can help investors make better decisions. The most obvious parallel in my mind is playing the odds. When a player at the blackjack table has an 11 after being dealt two cards, you will almost always see the player “double down”, ie, double their bet. This is the perfect example of playing the odds. The player knows their chances of getting a 21 are very high and wants to get as much money on the table as possible to take advantage. It is the intelligent move and has a great risk/reward. The financial markets offer similar set-ups on occasion, and I would like to offer two examples. The first is when market displacement causes closed end funds to greatly diverge from net asset value. During bouts of market panic, often times we see bond funds trade at 10-15% discounts to the intrinsic value of the underlying assets. Purchasing the funds at these discounts put the odds of a favorable outcome heavily in our favor. It is akin to buying a dollar for 85 cents. The second example is market wide and depends on volatility. When volatility, as measured by the VIX index, rises above 40, it is very rare. There are less than a dozen instances the last 20 years. When it does happen, investors want to be ready to pounce, as it is an incredibly reliable indicator of future returns. Almost 100% of the time, the market is higher 6 months later. Being knowledgeable about the odds can lead to more successful investing.

by developer June 18, 2020

Author: developer

View All Posts by Author