What can we learn by looking at a carnival, a casino, and the stock market as simple-closed systems?

hedgeless_horseman's picture

Gambling with cards or dice or stock is all one thing.
It’s getting money without giving an equivalent for it.

-Henry Ward Beecher

 

What can we learn by looking at a carnival, a casino, and the stock market as simple-closed systems?

For our purposes, at its most basic economic level, a carnival has as its economic input the sum total of money that we marks spend on buying tickets.  We will call this amount, "SALES."  

We will call the sum of money spent by the carnys on the giant stuffed animals and glow-in-the-dark necklaces that we marks win and get to take home from the carnival, "WINNINGS."


We will refer to as, "OVERHEAD," the total amount of money the carnival pays for all other expenses, such as roller-coaster loan payments, payroll for the carnys, clowns, and sideshow acts, electricity, gasoline, reptile feed, bribes to government officials, and snowcone syrup.

SALES - (WINNINGS+OVERHEAD) = PROFIT (or LOSS)

Nothing odd about that.  We go to the carnival to have fun.  It is entertainment, not an investment.  We don't expect a return on our money.

What is the con?  The con is that the milk bottles are made of lead and much harder to knock over than you imagine, and the carny's basketball hoop is half size.

Is it any different for a casino, if we leave out the hospitality aspects of the business for simplicity's sake?

SALES is the total sum of money which we marks spend on buying chips.  WINNINGS is the sum of money that we marks get to take home from the casino when we cash in our chips.


We will refer to as, "OVERHEAD," the total amount of money the casino pays for all other expenses, such as construction loan payments, payroll for the dealers, electricity,  white tiger feed, bribes to government officials, and slot machine repairs.

SALES - (WINNINGS+OVERHEAD) = PROFIT (or LOSS)

Nothing odd about that.  We go to the casino to have fun.  It is entertainment, not an investment.  We don't expect a return on our gambling, except maybe if you are a gambling addict.  We understand that the house always wins in the long run.  We understand that someone is paying for those giant water fountains in the desert, and Steve Wynn's art collection.  We understand that the someone is us, because the odds are always against us.

What is the con?  The con is the hope that luck trumps math.  Maybe once.  Maybe twice.  Maybe thrice.  Beginners luck.  But not in the long run.  

Is it any different for the stock market?

SALES is the total sum of money which we marks spend on buying stocks from the broker/dealers.  WINNINGS is the sum of money that we marks get to keep when we sell our stocks to the broker/dealers.

We will refer to as, "OVERHEAD," the total amount of money the broker/dealers pay for all other expenses, such as interest payments on debt, payroll for the licensed broker/dealers, traders, analysts, and software developers, electricity, coffee, cocaine, hookers, campaign contributions to government officials, CNBC advertising, and exchange fees.

SALES - (WINNINGS+OVERHEAD) = PROFIT (or LOSS)


There is something odd about that.  What is it?  We understand that Wall Street does everything to maximize its PROFIT, thus minimizing our WINNINGS.  Or do we?  We don't invest in the stock market to have fun.  Or do we?  It is an investment, not entertainment.  Or is it?  We expect a return on our investing.  We fail to understand that the house always wins in the long run.  We fail to understand that someone is paying for those solid gold toilets on Wall Street, and Steven Cohen's art collection.  We fail to understand that the someone is us, because the odds are always against us as individual investors.  We fail to understand that if it really is such a great investment, then they damn sure wouldn't be selling it to us, or to anyone else.  

We are stupid marks.

What is the con?  The con is that economic growth is both good and real.  It is most often neither.  The long con is nominal returns versus real returns

What keeps the con going?  Apart from greed?  Money printing.  

Please, understand that if the amount of money in a closed system doubles, the value of each monetary unit halves, and the price of everything, including stocks, increases 100%.

 

"You Gotta Be Johnny On The spot With The Ammo, got it? Or We're Dead."

I realize this is all an over simplification.  That doesn't mean it isn't true, because it is true.  

We can learn something from this.  TANSTAAFL!

Peace, prosperity, and liberty,

h_h

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Longarm's picture

Round and round she goes

where she stops, nobody knows

K_BX's picture

It´s not that easy, because it is not a closed end system. There is debt & economic growth that increase the pie. What about the following scenario: A constantly rising stockmarket produces mainly winners(except short sellers & some poor souls with bad timing...).

hedgeless_horseman's picture

 

A constantly rising stockmarket produces mainly winners...

Just like in Zimbabwe, or a different kind of winner?

mendigo's picture

DI imagine you are refering primarily to stock pickers or value investors - since all the data is massaged. Finance is a special kind of hell where everyone lies most of the time and really well - its the measure of a proffesional.

On ETF investing the interests of investor and broker are alligned since the broad market needs to be rising or its death to the industry. Riding the ponzi wave. Only reality interferes sometimes but thats where the FED comes in.

I wonder what the market would be like if banks were not having thier testicles warmed by the FED.

Speaking of lying, nice charts. You are indeed a pro.

Cthonic's picture

Nice article HH;  I used to show my colleagues a graph of the SP500 overlaid with scaled M3 to make the same point, however the Fed doesn't publish M3 anymore.

I recently completed part of a project that was tasked with coming up with a discounting scheme to compare long term investments, in effect developing our own numeraire (a synthetic unit of account of purchasing/investing power).  The takeaway is that most investment has a near zero real equilibrium return against this numeraire (over a period of 26 years, including distribution reinvestment), and that it is getting worse (going negative) as the developed world pushes itself into the upper right half portion of a gompertzian curve of debt load.  Hence, the only benefit to be derived by a typical Joe from playing in a fiat-denominated marketplace/casino is to achieve some form of income and or wealth diversification, i.e. insurance.

RagaMuffin's picture

"Please, understand that if the amount of money in a closed system doubles, the value of each monetary unit halves, and the price of everything, including stocks, increases 100%." "Closed system", no reference to international flows? Really?

any_mouse's picture

Missed the point.

Entity XYZ has a value V that is independent of currency.

That V is expressed in USD on the US market.

Overnight the USD falls to half its spending power.

Today it takes 2X as many USD to purchase a share of XYZ.

Will you really make a profit by selling a share of XYZ?

Almost every trading day ends with a green arrow and a red arrow.

One arrow is USD, the other arrow is Equity indices.

Those who print USD and sell for debt make profits. The House.

The House wins in famine, war, pestilence, death, and perceived prosperity.

hedgeless_horseman's picture

 

One arrow is USD SUM ALL GLOBAL CURRENCY, the other arrow is GLOBAL Equity and Debt indices.

Iconoclast's picture

Good points well made in a brief article.

Over a four-year observation period, the AMF found for the clients of the intermediaries surveyed (14,799 active) the results reveal that CFD trading (78% of active clients lost money) is nearly as “toxic” as forex (84%.). The average loss was circa €10k per client. This is part of the reason why the UK's FCA is clamping down on the spread betting fraud industry.

It's worth thinking over that even guessing by a coin toss you'd have a 50% chance and yet 85% of retail fx traders lose money and 80% of CFD traders. Partly it's platforms, it's also seeing patterns that don't exist, shocking money management, ridiculous ambitions and no understanding of probability.

http://www.amf-france.org/technique/multimedia%3FdocId%3Dworkspace%253A%...

sTls7's picture

It's a crap shoot.

twittering as stocktradr's picture

the odds are always against us.” The odds are against one if you do not know how to play the odds to make money.

 

The con is the hope that luck trumps math.” If you understand the math, one makes money.

 

The casino called Wall Street is one of the best places to make money.

 

Trading is a simple pure business. One opens a position. One closes the position. One makes or loses money.

 

"We (LOSERS) fail to understand that the house always wins in the long run.Learn how to be a winner and make money.

 

Do not be a LOSER.

 

The best FREE place I found to understand and learn trading is at Tastytrade.

 

 

Twittering as stocktradr  A retail trader.

hedgeless_horseman's picture

"The odds are against one if you do not know how to play the odds to make money."

The only way to play the odds and make (REAL) money over time is to be The House, cheat, on the skim (OVERHEAD), steal, or export inflation (which is, I believe, what we in America have been experiencing for quite some time).

SALES - (WINNINGS+OVERHEAD) = PROFIT (or LOSS)

On a long enough time line...

SALES is much greater than WINNINGS. Look at Wall Street's P&Ls.

Therefore, in the system when you "make money" (WINNINGS) it is either inflationary or temporary.

No?



Cabreado's picture

The "stock market" is as far away from a "simple closed system" as you can possibly get.

"I realize this is all an over simplification."

Stick with that... right there.

 

hedgeless_horseman's picture

Stick with that... right there.

Why?

Let me guess.

You earn your livelihood selling stocks?

Cabreado's picture

A simplistic, but lousy guess.

hedgeless_horseman's picture

 

I am pretty simple, and have never been much of a guesser.

Why?

AliSONY's picture
AliSONY (not verified) Jan 13, 2017 11:14 PM

 

Only good analyst left

https://t.co/f3mU9N8rc4

 

Penny Trader's picture

See now You do show a good analyst.  They prove they are a good analyst by showing past charts that are time stamped.  Thank you for sharing that.  

 

Good analysis and they have been around for a lot longer than the analysts who post on ZH. 

any_mouse's picture

Blow this shit out of your ass into your toilet.

luna_man's picture

 

 

But I wanna be like Buffett!

spdrdr's picture

We can ALL be like Buffet!

All it takes is a little imagination, a desire to go against the herd, and acquiring a lifetime's worth of good, solid political and financial contacts.

I am a bit surprised at HH - an eloquent comparison essay, but he changes tack without any attempt at explanation.  HH refers to the carny and casino "OVERHEADS" as including "bribes to Government officials".

HOWEVER, when he refers to Wall Street "OVERHEADS", he uses the rather suspect nomenclature "campaign contributions to Government officials".

It think that it's high time for Hedgeless to be re-educated.

 

 

hedgeless_horseman's picture

I am with you. 

One and the same.

I usually write it like this, using strike through:

...bribes campaign contributions...

ebworthen's picture

The "Stock Market" is a Casino.

I've been in many Casino's, and the games, the psychology, and the people are much the same; identical in my opinion.

If it looks like a duck, walks like a duck, talks like a duck...

Here are where the "gains" in the "markets" came from:

http://www.usdebtclock.org/

Where's my bailout?

Janet?

Zarbo's picture

Thanks, HH.  Nice comparison.  What effect does trillions of dollars of derivatives (with no real backing) do to affect the closed system for the dollar?  Serious question.

bIlluminati's picture

In the runup from 1.47% to 2.5%, the Feral Reserve lost about $700 billion (and another $80 billion at the recent peak). Since then the FR has gained $100 billion, so only down $600 billion. Compare to the Mississippi Bubble. In 1716, Scotsman John Law, with the support of the Duke of Orleans, started the French Bank and issued bank currency. In 1717, he gained control of the Mississippi Company. IN 1719, the Company obtained the right to collect all French taxes, Real estate prices in Paris increased 20-fold from 1719 to early 1720.

When investors in John Law's company (it changed names several times in this period) started to take profits, by selling shares and redeeming them in gold and silver, prices fell. Shares of the company, which had gone from 500 livres to 16,000 livres, dropped back to 500 livres by early 1721. John Law ran for his life, having lost almost all of his own wealth.

The Feral Reserve is a committee, and is more likely to end as a later French government (pre-Napoleon) ended. Compared to 1930, the U.S. is like Britain, China is like the U.S., and the U.S. Deep State wants Russia to be like Germany. History does not repeat, but it often rhymes. China will have a tough economy the next ten years, but beyond that, prediction is difficult, as the personalities of U.S. commoners and rulers are distinct from Chinese commoners and rulers. Obviously, some of China and U.S. will push for war.

hedgeless_horseman's picture

I think that maybe the vast amount of derivatives act like a complex support system for our current financial markets, much like wooden scaffolding, propping it up.

But like wooden scaffolding, once a spark ignites the highly inflammable support structure, the support system will act like fuel for the fire.

zhandax's picture

HH is on to something here. The derivatives market is a separate casino for the 'players', but that is another discussion.

When there was still a quasi-legal basis for the dollar (the gold standard), currency risk could be calculated and hedged based on a fixed value.

Since Nixon closed the gold window in 1971, inflation is whatever the Fed 'target' declares plus or minus execution variance.

Within current targets and in colloquial terms, your currency is expected to loose 2% of its value each year (IF the Fed remains on target). Think of this as the house edge. Your capital increases only by the excess of 2% of your nominal gains, and decreases by 2% of the remainder EACH YEAR.

Obviously this situation attenuates loss aversion and has a depressive effect across the board.

When the spread between opportunity of gain vs inflation loss becomes severely compressed, as now, we accurately call this the casino market.

There are obviously exceptions, but if you are just beginning, you need to know where the pylons are.

divingengineer's picture

That seems like a fairly lucid statement about a very fucked up concept.

DontWorry's picture

If you are investing for anything other than real (adjusted) gains, you are playing for stuffed bears.  The real question is, how do you adjust your gains?

Zarbo's picture

How do you adjust?  I am a financial newbie, but if you invest $1000 (in a closed system) and gain, say, 8%, but the currency in existence doubles, have you really made 8%?  In the closed system you may have, but let's say your initial investment was pegged to some external standard (gold? Ugandan dollar?).  If the external standard remained constant while the system's currency doubled, then you've lost 42%.

Even close?

divingengineer's picture

+1 for your use of the term, "Ugandan dollar".
Vivid imagery.

delacroix's picture

a bankrupt casino creating more poker chips, to regain solvency. I don't want to play anymore.

ebworthen's picture

In Weimar Germany the "closed system" was the Nation; you could say the same for France before the revolution and other examples.

What kept the value of the "money" a person had in their physical posession?  Gold and Silver. 

That, and a person's life and that of their loved one's.

Don't think of earning, think preserving.

Raging Debate's picture

Zarbo, I do not know about exact percent but your premise is correct. Most investors know they must outrun inflation. But most dont understand WHY that should be a reality (it shouldnt) in the first place. Whether carnival, casino or stocks research always helps your odds. 

 It cost me a bundle at the carnival to learn the hard way that I could win a decent prize for $20 on the salt gun game. Right now, I like possession of.property  in hand or as close I can get it vs. paper promises. That cycle will change. But of course the potential gains will be less for less risk. Depends on your risk appeitite and available coin. 7 out of 10 things will miss even with good research. By good, I mean buying access to politically connected info.

 There sellers of that and even good analysts just give the info, consultants are supposed to advise but when Goldman on down advise to fuck you as a model it means your best getting the best info you can and making the choices without the 'advise' (at least right now). 

But you need more than I have to risk it during this end of speculation and political flux in any event for equities or bonds. I am better with properties to invest in. But for some wealthier that is not enough return or perhaps 'fun'. I like to save some in gold. Its fungible but gives me some discipline to not go trade it in. Since banks arent paying diddly for interest better me holding that until the do pay more. I can rub it against myself and it feels so good...

DontWorry's picture

Welcome to fight club

hedgeless_horseman's picture

https://en.m.wikipedia.org/wiki/GDP_deflator

About as trustworthy as every other government statistic.

zhandax's picture

Weight it against how much you have to pay for your personal upkeep; food, rent, fuel, utilities, taxes, childcare, medical care, insurance. Several of these will magnify changes you share with upstream providers (fuel, taxes, utilities, insurance). Track and chart that for your personal instance.

bIlluminati's picture

Shadowstats are worse than U.S. Govenment stats. And that is a lot. Inflation has been running at 0-9% per year, depending on your mix of products. Clothes aren't more expensive, although much is quality-impaired these days. Food: many foods chepaer (see caveat about quality). Computers cheaper, with operating systems (see caveat about quality). Phones cheaper: quality ditto.

So I can pay more for quality, or less for marginal products. Since the 1% has more Federal Reserve Notes, and the 99% is stuggling, that even makes sense from a dual supply/demand curve. However, in the past 6 months, real estate has gotten weaker, like in 2006-2007. This is not yet nationwide, but is more obvious in the $1 million plus markets, and in the millenial/starter home markets. Perhaps the markets are anticipating a shift away from the rich getting richer and the poor getting welfare.

Right now, markets appear to be in waiting mode. Are they waiting for actual laws/Executive orders/actions, sales/earnings, non-U.S. news?  I expect Dims in the House to offer Articles of Impeachment on a daily/weekly basis, that go nowhere, but keep child slavery off the front pages.

Until it doesn't.