Gambling on Stock Options & the Forex Market - An Alternative to Casino Gambling

Imagine waking up every day and “working” by putting your hard-earned money at risk. Taking into account various statistical trends and probabilities, your job is to parlay an initial stake into profits using nothing but your wits and moxie. Your odds of success will vary wildly depending on the day’s circumstances, swinging to your favor, against you, and back again seemingly on a whim.

And all the while, even when you’ve made the perfect play, your eventual bottom line will largely be determined by variables far outside of your own control. That routine may sound like the life of a professional gambler, but I’m actually talking about investors who earn their living through the trading of options, currencies, and stocks.

Whereas gamblers must beat the house to make ends meet, investors and traders are tasked with beating a similarly fearsome foe – the market. In both cases, knowing how to determine the exact ratio of risk to reward separates winners from losers. And for gamblers and investors alike, massive gains can be realized when the perfect storm of circumstances happens to arrive.

In the eyes of most, gambling occupies a lower rung on the social ladder than investing – even though the casino floor and the trading floor serve essentially the same function.

In both arenas, unbridled capitalism reigns supreme and only the fittest survive. The poor can become rich, and vice-versa, all through the power of their own decision making coupled with fortuitous timing, natural instinct, and intelligence. Indeed, gambling and investing have much more in common than you might suspect.

That link becomes tangible when you consider the long list of former Wall Street impresarios who have transitioned into the professional gambling lifestyle.

Just ask Andy Frankenberger, a former equity derivatives trader who worked for BNP Paribas and JP Morgan during his investing days. After becoming disillusioned with the Wall Street grind, Frankenberger began dabbling in the tournament poker scene. There, he soon realized that playing poker for a living had several common links to his previous career.

Here’s what Frankenberger had to say about the similarities between poker and investing during an interview with the Wall Street Journal back in 2012:

“A lot of people think that I just get lucky.It’s all about risk management.

If the market goes against you and you’re wrong, you get out. A lot of poker players don’t know how to do that because it looks weak.

I can fold a hand that makes me look weak. I don’t care about my image. I care about winning.” (Quote)

At the time of that interview, Frankenberger had just put the finishing touches on a masterful year on the felt. He took down not one but two titles in Season 9 of the World Poker Tour (WPT), earning the WPT Player of the Year crown in the process. And between 2011 and 2012, Frankenberger added a pair of gold bracelets at the World Series of Poker (WSOP).

All told, Frankenberger has amassed more than $3.4 million in live tournament earnings since ditching the investment portfolio to become a poker pro.

And if you ask Pascal Leyo – the former head of derivatives trading for BNP Paribas, and the man who eventually brought Frankenberger along with him to JP Morgan – moving from the world of big banks to big bluffs was a natural fit:

“He would take as much information as he needed before trading, which is what he does with poker.

He wasn’t an ego trader.”

The poker world is home to several stories that follow the same template, with successful investors like Bill Perkins and David Einhorn thriving on the tournament circuit.

But the link between investing and gambling isn’t limited to poker by any means. As you’ll learn throughout this page, top-tier blackjack players have gone on to build immense fortunes through their investing prowess. Meanwhile, many of the world’s top investors use the negative expectation involved in gambling to teach students about sound money management.

That’s exactly how billionaire investor Warren Buffet – the man who built Berkshire Hathaway into the world’s most consistent financial services company – taught his own children to evaluate risk versus reward:

“I bought a slot machine a long time ago and put it on the 3rd floor of my house.

I could then give my children any allowance they wanted, as long as it was in dimes, and I’d have it all back by nightfall.

I wanted to teach them a good lesson. My slot machine had a terrible payout ratio, by the way.” (Quote)

Clearly then, gambling and investing can go hand in hand depending on your area of interest.

On that note, let’s dive into three especially prevalent forms of investing – options trading, foreign exchange (Forex) markets, and the stock market – to see whether these economic engines really do compare to casino gambling.

How Options Trading Is Like Gambling

Frankenberger specialized in derivatives trading during his time on Wall Street, and one of the most common forms of derivative securities are options.

An options trader obtains the right to either purchase or sell various assets for a predetermined prize at some point in the future. These assets can be real estate contracts, stock portfolios, or commodities like steel or timber. Options can come in various forms, but the trading of them revolves around the basic principle that investors can acquire the right to purchase assets at a fixed price down the road.

In case that explanation isn’t quite clear enough, this is how the Investopedia resource site defines options trading:

“Specifically, options are contracts that grant the right, but not the obligation to buy or sell an underlying asset at a set price on or before a certain date.

The right to buy is called a call option and the right to sell is a put option.” (Quote)

If you’ve ever watched the classic comedy “Trading Places” (1983) – which stars Dan Akroyd and Eddie Murphy – you’ve already experienced options trading in action. The film’s climax involves a complex scheme whereby Akroyd’s “Winthorpe” and Murphy’s “Valentine” conspire against their villainous bosses. And as this informative profile spells out – spoilers included – trading options related to frozen concentrated orange juice on the commodities market can make you rich in a matter of minutes.

To better understand the links between options trading and gambling, think carefully about how options expert J.P. Bennett described the endeavor during a segment of the Industry Focus podcast:

“You can create strategies, or basically try and trade, in a way that is very similar to gambling.

If you get a home run in one of your first couple strategies, you’re really set, but otherwise you’re going to end up with no money. Or, you can do what we do.

In options, we target consistent winners, basically creating a diversified portfolio of options strategies to generate income and long-term capital gains, and do it in a much safer, low-risk manner.

Basically, we do that in terms of how we structure our trades, what types of trades we favor, the strike prices we use, expiration dates, how much we pay.” (Quote)

If you think about what Bennett is really saying in that passage, options trading becomes a close cousin to strategy-based gambling games like blackjack and video poker.

In these games, players have the power to make decisions – hit or stand in blackjack, hold or draw in video poker – that have a direct influence on the eventual outcome. Sure, luck is still involved in the short-term, but as Bennett observes, using an inferior strategy over the long run is a surefire recipe for bankroll disaster.

The most successful blackjack and video poker sharps “target consistent winners” by mastering the game’s optimal strategy. In decision-based games, players will always be presented with a series of options, but only one will be the mathematically optimal play. The folks who know how to make that perfect play every time out will weather the swings of variance much more consistently than those playing by gut instinct alone.

When Bennett refers to generating gains in “a much safer, low-risk manner,” he’s furthering the connection between options trading and skill-based gambling.

While most recreational players dabble in games that boast a high house edge – such as roulette (5.26 percent) and slots (7-10 percent on average) – winning gamblers stick with the best bets available. To wit, blackjack offers a low house edge of just 0.50 percent when you play with basic strategy, while video poker games like Jacks or Better can go even lower (0.46 percent).

Finally, the ways in which Bennett and his fellow option traders mitigate their risk – structuring trades and sourcing the best price – also fall in line with intelligent gambling. Those winning blackjack players would never be caught dead at a table offering 6 to 5 payouts for blackjack. That’s because they know the old 3 to 2 rate is preferable, as it reduces the house’s inherent edge. And for video poker impresarios, playing a game’s “full pay” table (9-6 for Jacks or Better, etc.) is the best way to reduce short-term variance.

Vanessa Selbst grew up with an options trader for a mother, but she eventually settled on a legal career before diving headlong into the world of professional poker. Selbst quickly soared to the top of the industry, becoming the world’s highest ranked tournament player, while dominating the high-stakes cash games online in her spare time.

Today, having banked more than $11 million in tournament earnings alone, Selbst is once again making a career change – but this time she’s following in her mother’s footsteps.

After “retiring” from professional poker last year, Selbst took a position with Bridgewater Associates, one of the world’s largest hedge funds with more than $160 billion in assets under management at the moment. You can read more about Selbst’s journey from high-stakes poker to high finance here, but suffice to say, she’s leaning on her prior experiencing managing risk to guide her at Bridgewater.

Here’s how she described her new job duties during a recent interview with the New York Times:

“If something’s undervalued, does that mean you want to buy?

Well, maybe, but if you buy it, how’s it going to go up? Who are the other people who are going to buy? What are they thinking about? What’s their motivations?

You have to be thinking about who the other players are and what they’re going to do.” (Quote)

You might’ve noticed Selbst’s use of the word “players” near the end there, and one would suspect that’s not a mere slip of the tongue. As she made clear, investing on the highest levels involves many of the same skills used by elite poker pros. Anticipating multiple outcomes, planning for contingencies, and attempting to “read” the market helped separate Selbst from her foes on the felt – and she’s hoping they apply in the heady world of hedge fund management as well.

Selbst became interested in Bridgewater at the behest of Galen Hall, another immensely successful former poker pro who left that tables to earn his MBA. Hall realized early on that his poker skill set would help him excel as an investor, as he revealed to the New York Times in the same profile:

“Here’s somebody who has won a ton of poker tournaments, so obviously she knows what the standard play is, but she does something different and you say, ‘Oh, you’re an idiot,’ instead of taking five seconds to think about what this hyper-intelligent, hyper-successful person is doing.

At Bridgewater, what’s really valuable is people who can think extremely independently.”

How Forex Trading Is Like Gambling

Whenever you exchange U.S. dollars for pesos in Cabo San Lucas, or Euros in Brussels, or any other foreign currency for that matter, you’re dabbling on the fringes of the Forex market.

Forex is short for foreign exchange, and this method of trading revolves around the exchange rate between two currencies.

Here’s how Investopedia defines Forex trading:

“The global foreign exchange market is the largest and the most liquid financial market in the world, with average daily volumes in the trillions of dollars.

Foreign exchange transactions can be done for spot or forward delivery.

There is no centralized market for forex transactions, which are executed over the counter and around the clock.” (Quote)

Essentially, even with very gradual shifts in value that occur over long periods of time, currencies can be used as an investment vehicle. At the moment, one U.S. dollar is worth 0.77 of a British sterling pound, so your $100 investment would net £77. But if you hold onto those pounds for a year, and the value of a pound increases relative to the dollar, selling them on the Forex market would net you a tidy profit.

That’s obviously a simplified example, but big banks, hedge funds, and even national governments routinely make massive investments in Forex. Up until the internet age, Forex trading was the sole domain of these institutions, but the online world has given rise to a new generation of individual Forex investors.

Warren Buffet, the billionaire investing guru behind Berkshire Hathaway, doesn’t focus his immense assets on Forex trading like he does corporate acquisitions and stocks, but he does dabble here and there. And when asked about the concept of investing in currency fluctuations, he offered a typically pointed reply:

“The future of a currency is a product of governmental action.

The real question is how disciplined governments will be over a period of time. Our government has been pretty darned good.

All currencies depreciate over time, and the question is, where are they going to depreciate the least?” (Quote)

Buffet’s words of wisdom can be applied to the entire casino gambling industry. In every game on the floor, from blackjack to baccarat and everything in between, the house holds an inherent edge.

Knowing this, you can consider your bankroll to be a currency of its own. As Buffet warns, this bankroll will depreciate over time, like all currencies do. The big question, then, is exactly what Buffet asks – where will it depreciate the least.

You already know that skill and strategy games like blackjack (0.50 percent) and video poker (0.46 percent) offer the lowest house edges. Meanwhile, games like the roulette (5.26 percent), slots (7-10 percent), and keno (15 percent) all tilt the odds heavily in favor of the house.

These cold mathematical facts make gambling and Forex trading birds of a feather. In both pursuits, the objective should always be to follow Buffet’s lead. By pursuing the currencies or games that will depreciate the least, you’ll preserve your bankroll over the long run – allowing for further opportunities to collect a profit over the interim.

How Stock Market Trading Is Like Gambling

The most approachable method of investing for average Americans is the stock market. Trading stocks boils down to purchasing shares of a publicly held company. Startups and struggling firms have lower stock prices, but as they grow and capture market share, the value of their shares will rise in kind.

Back in 1985, Donna Fenn bought a few shares of stock in a tiny computer company called Apple on a lark. Today, as Apple becomes the first American company to achieve a $1 trillion valuation, Fenn’s investment has increased in value by an astounding 50,000 percent.

Fenn’s windfall isn’t the norm, of course, but neither is triggering a major progressive jackpot on a slot machine like Megabucks. When you purchase shares in a developing company, the investment can rightfully be viewed as dropping a nickel into the slots. You’re simply purchasing an opportunity, one that can result in a loss or a win depending on a little luck.

But while Fenn’s good fortune certainly makes for a fun story, the stock market really rewards the best long-term planners. It certainly did for Edward O. Thorp, one of the world’s preeminent investors and hedge fund managers. Thorp has made billions betting on certain stocks and bonds, but he began life as one of best blackjack theorists on the planet.

Using sophisticated computer analysis, Thorp perfected the first “point” system used for counting cards in blackjack. In his seminal book “Beat the Dealer: A Winning Strategy for the Game of Twenty-One” (1962), Thorp provided millions of readers with the optimal strategy and card counting methods needed to turn the house’s edge upside down.

Thorp went on to use his expertise in probability theory and analytics to construct an algorithm used for identifying price anomalies in the securities market. Once again, his book “Beat the Market: A Scientific Stock Market System” (1967) revolutionized the way sharp thinkers make money.

Thorp is still at it today, managing a multibillion dollar hedge fund while continuing to innovate in the world of investing. And as he told Market Watch last year, those abilities stem directly from his history as a blackjack pro:

“Beating the blackjack tables by keeping track of the cards was, though I didn’t realize it until later, a preparation without equal for successful investing.

When I had the edge, I bet big, but not so big as to risk going broke. When the cards favored the casino, I played defense, to limit my losses.

The same approach worked on Wall Street: the bigger my edge, the more I bet and the greater the risk the more cautious I was.

Gambling and investing are alike – in both you risk money, which you then may win or lose.” (Quote)

When you venture into stock market trading, you’re essentially betting on yourself – just like Thorp and the legions of card counters he created do at the blackjack tables.

Losses will always occur, but over the long run, the best investors and gamblers alike – the Buffets, Selbsts, and Thorps of the world – manage to create more winning situations than losers.

Conclusion

It’s amazing how options, Forex, and stock trading are all legal, but casino gambling and sports betting aren’t in many areas. Progress is slowly being made, so hopefully it all will be considered equal.