Saturday, June 16, 2007

Thoughts from the Casino Floor

Today I was at Foxwoods casino, in Connecticut, playing blackjack and poker. For anyone familiar with the finance world, this is the draw at any casino. For anyone who even has the tiniest gambling itch, these two games are the most popular and fun to play.

There, sitting at blackjack, we joked about the MIT blackjack team, and consulted one person's "MIT Blackjack Rules" index card. After a few consultations, where the rule resulted was for the house and against the player, the dealer spoke up that the rules were meaningless, and that the thing going against the MIT Team was "a string of bad luck". He further stated that this was a clear indication why statistics is always beaten by the real world, and so you should never even play.

I thought about this statement, and matched it against what a lot of what finance does, using statistics to predict the payout across a large population. Investment-wise, this is especially relevant to the analysis and "picking" of stocks. So much of what happens is based on statistical probabilities that play out across many trials, they hold, but in few isolated instances could go totally against you.

It is this willingness to accept risk that really define the successful financial professionals from the mediocre, and the good investor from the bad. It is not to say that you should accept any risk, but rather you will consider reasonable risks as that is the only way to get good returns. To this end, a good investor must also understand that they will lose sometimes, but overall, they should be ahead.

Keep in mind the advice of the blackjack dealer. If you can't deal with the random "strings of bad luck", don't play. But, remember that statistics does work, but only if you do the same thing across a large number of trials, not just in isolated instances.

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