The Greatest Investment Book Ever Written
No, I’m not talking about Security Analysis or Intelligent Investor by Benjamin Graham or even Greenblatt’s You Can Be a Stock Market Genius. I’m talking about Doyle Brunson’s Super System: A Course in Power Poker.
OK, so the title of this post is a bit of an exaggeration and yes, there are probably tons of better poker books out there now post-extended-poker-boom. The first edition of this book was published in 1978. The connection between poker and trading is nothing new. Just google “poker and trading” and there’s a lot of stuff out there; how poker guys started hedge funds, how a hedge fund guy became a poker guy, how they are similar/different, what can be learned from one or the other etc. And the connection between gambling and trading was well documented in Fortune’s Formula.
But I just wanted to make a post about this book because I’m starting to reread it again (don’t ask). I am not a poker player, but I remember reading this book a few years ago having borrowed it from a poker-playing friend. Knowing that many traders and investors are very good poker players, I wanted to see what I can learn from reading about poker.
I remember falling out of my chair at the similiarites between poker and investing. I come from more of a trading background than an investing one and what was written in this book, particularly the early chapter “General Poker Strategy”, has great advice that applies to traders and investors too. I would make that chapter required reading along with the other investment “must reads”.
Anyway, here are some comments about what Brunson talks about in this chapter by sections. I only comment on some of the stuff so this isn’t a summary of the chapter by any means.
Pay Attention… and it will pay you
Here Brunson talks about paying attention to other players during a poker game. Watch and listen carefully even if you are not playing for the pot and you will pick things up.
He also suggests bluffing to see what someone does to learn more about him. We might think we can’t do that in the markets, but bigger hedge fund managers actually do test the market. They can try to buy a big lot of bonds or sell it to get a sense of where the weakness might be; they are probing the path of least resistance. But most of us can’t do that, and long term investors would have no interest in such market operations.
But the advice, to pay attention, is applicable to all of us in the markets. We have to pay attention to what’s going on in the market. We always like to say, ignore Mr. Market, or ignore the macro, but we have to pay attention to what’s going on. Maybe if I paid more attention, I would have bought some Liberty Media in late 2008. OK, enough of that. Get over it.
But it’s true. We have to pay attention. There might be a tendency, when we own positions we are happy with to get lazy and ride it out. But then what do you do when things get to fair value or above? Or there might be better things out there even if we are happy with what we own.
So we must pay attention.
Brunson also says, “A man’s true feelings come out in a Poker game”. He says you’ll learn a lot about a person’s temperament by watching a ballgame he has bet a lot of money on; how well he can take disappointment etc. He says it’s the same in poker, and it’s the same in trading and investing too.
Talk to people at the height of a bull market or at the lows of a bear market and you will really know what kind of temperament the person has. I’m sure all of us with professional experience have anecdotes about traders and investors on their big up and down days. I tend to trust the guys where you talk to them on any given day and you have no idea if they are up or down on the day. The ones you can tell from across the room are the ones I would tend not to trust… (well, there are overly emotional, screaming/yelling, phone-breaking-monitor-throwing great traders, and then the quiet people who just blow up with no early signs, I suppose but…)
You can really learn a lot about yourself, too. You can’t really observe other people in the investing world, so you can just observe yourself and learn a lot about yourself and who you really are and what you might or might not be cut out for.
Play Aggressively It’s the Winning Way
Here he talks about the difference between a “tight” player and a “solid” player and how many people seem to be confused about it. In poker, a tight player is a conservative one and won’t play too many hands. A “loose” player is the opposite; like a drunk player that plays every hand, calls every bet. But a “solid” player is not the same as a “tight” player. A “tight” player is a conservative player that will play tight all the time, but a solid player will play tight, but when he plays, he will play aggressively.
There is “tight” and “loose” in investing too. We’ve all met someone who will buy almost any stock on any tip (loose), and others who won’t buy anything, or will rarely buy anything. When I first started investing for myself, I was very tight too. I read a few Buffett books and figured, OK, I’ll just by Coke in the next bear market at 8x P/E. It’s a great idea, but the only problem is, Coke doesn’t get to 8x P/E, ever (and when it does, you may not want to own it!).
I just figured if I had a Buffett-like stock (high ROE, high-moat business) and bought it for really cheap, I can’t lose. Well, this is correct in theory, but that’s like wanting to wait for a royal flush before ever betting. It didn’t take me long to realize that this approach won’t work.
Now I like to see myself as a “solid” investor.
I would put people like Buffett, Greenblatt, and any of the great traders/investors as “solid”. They will pick their shots and not play too many hands, but when a good hand comes along, they will go in big.
Brunson says, “Timid players don’t win in high-stakes Poker”. This is true in the markets too. But that doesn’t mean you have to be “loose” or that you should ignore risk.
I think there are a lot of smart and competent investors and traders that don’t do well because they don’t have this sort of killer instinct. They are way too timid. They love a stock and they have 2% of their AUM in that stock, for example. I read a decent book on investing not too long ago and was impressed, but when I looked at the author’s portfolio (no names!), it looked more or less like an index. There is no way this portfolio is going to outperform the index by more than a percent or two with that sort of diversification in the largest cap stocks. (Yes, Peter Lynch and others have been known to have a large number of names in their portfolios but my impression is that those portfolios contained smaller and midcap names, not the largest companies. This is why they were able to outperform despite the high degree of diversification).
We know how focused Buffett is (and was during the partnership years), and many of the other great investors/traders.
I remember talking about Soros once and someone who was close to him said something to the effect that Soros is not that different in terms of analyzing markets and finding trade ideas than others, but he had the ability to put on huge size. In other words, he was no smarter than anyone else, but he had the biggest balls (more on courage later).
And the great thing about the markets is that the markets can’t fold on you. If you go “all in” in a poker game, you might scare people away. But not in the markets.
Art and Science: Playing Great Poker Takes Both
Brunson says poker is more art than science, and that’s why it’s difficult. Knowing what to do, the science, he says is 10% of the game, and the art (knowing how to do it) is 90%. He says in the introduction that a computer can be programmed to play blackjack well, but not poker (even though I hear that bots win a lot of money playing poker online these days).
It’s similar to the world of investing/trading. People have used computers for years to create trading models, and many of them do make money. But the models are programmed by humans, reprogrammed, recalibrated, adjusted etc. according to market conditions. I don’t think there is a self-learning/improving computer trader/investor out there (yet).
In this section, there’s an interesting comment:
“Any time you extend your bankroll so far that if you lost, it would really distress you, you probably will lose. It’s tough to play your best under that much pressure.”
This is exactly what Joel Greenblatt said in an essay soon after the financial crisis. He was talking about how many people thought the error in their investment was that they didn’t foresee the crisis and so didn’t sell stocks before the collapse. Greenblatt insisted that this couldn’t be done anyway and that the real error was that these people simply owned too much stocks. If you own so much stock that a 50% decline is going to scare you and make you sell out at precisely the wrong moment (and as Greenblatt says, and Brunson says in this book, you are almost guaranteed to sell out at the bottom), then you owned too much stock to begin with. Greenblatt said the mistake wasn’t that they didn’t sell before the crisis, but that they sold in panic at the bottom. This was the error.
So the key defense against inevitable (and unpredictable) bear markets is to not extend yourself so much that it will distress you when the markets do fall (and they will). Buffett says that if it would upset you if a stock you bought declined by 50%, then you simply shouldn’t be investing in stocks. As I like to say all the time, more money is probably lost every year in trying to avoid losing money in the stock market than actual losses in the stock market!
Brunson also suggests thinking about chips as units and not as money. This is so very true in trading and investing too. If you think about money as money, then it may impact the way you invest. If you think of a loss as real money, it might upset you. For example, if a stock tanked and you lost money on it, it’s easy to think, “gee, I could’ve bought a Porsche with that money…”. Or if a loss is thought of as next month’s rent, you won’t be able to focus on the process; you will be distracted by the reality of the money.
Courage: The Heart of the Matter
Brunson says, “I’m asking you to walk a very thin line between wisdom and courage, and keep a tight rein on both”. He says that courage is “one of the outstanding characteristics of a really top player”. He points out that some people play really badly after losing a big pot while others play much harder.
He says that one of the elements of courage is realizing that money you already bet is no longer yours regardless of how much you put in. This is similar to investing where people do tend to get caught up in their cost (I’ll get out when it gets back to break even, etc…). If it doesn’t make sense to call, then one shouldn’t call. People probably tend to look at what they put in the pot and they might call not wanting to lose what they already bet. Similarly in a stock, if you buy something and it’s no longer a good idea, it’s not good to wait for break even or even buy more just to get the average cost down so you can break even sooner.
As I said in the above about being aggressive, I think that one of the big differences between OK investors/traders and great ones is courage, or balls (is this appropriate blog language? I don’t know).
But Brunson, in the section on being aggressive, distinguishes between being aggressive and being stupid. He sites an example of a player trying to bluff someone out of his money with a losing hand, and he calls that stupid, not aggressive.
There is sometimes a fine line, maybe, between stupid and aggressive in the investing world too. I’m sure to insurance company executives (in charge of investments), Buffett’s backing up the truck on American Express during the salad oil scandal might have looked stupid or reckless at best.
There is a tendency to assume that “diversified” equals “safe” and “focused” equals “risky”, just as there is a misconception that “beta” (or stock price volatility) equals “risk”. This is not true at all. As Howard Marks says in his great book, The Most Important Thing, risk is not a function of these things. Overpaying for high quality companies can sometimes be riskier than paying a very low price for a mediocre company etc.
The Important Twins of Poker – Patience and Staying Power
This is very obvious too in the world of trading and investing. You have to have patience. Ian Cummings at the last LUK annual meeting (in 2012) put it like this: You should sit on a porch, watch the world go by and then if you see something succulent, jump on it.
Buffett talks about his 10-hole punch card, or waiting for the perfect pitch (there are no strikes in investing. There are no antes either so it doesn’t cost you anything to fold right away).
Brunson talks about not drinking here; hopefully nobody reading this makes investment decisions while drinking.
There are a few other pieces of good advice (look for weaknesses in your play and fix them etc…) but an interesting point here he says,
“Maintaining confidence is your strongest defense against ‘going bad’. When you start to go bad or just start to think you’re going bad, you become hesitant… Allowing your confidence to be shaken can turn a simple losing streak into a terrible case of going bad“.
He reminds us that we still have to be open to the idea that something may be wrong with our play.
This is very interesting because watching value investors during the crisis, it feels like a lot of people lost confidence. One investor who was a focused investor decided to diversify more after taking big losses only to go back to a focused approach after the markets recovered.
Many other value investors seemed to question the idea of value investing itself and sound these days more like macro investors. Many seem to have lost their faith in the stock market overall.
Controlling Your Emotions
Brunson advises, “never play when you’re upset”. We all know that the biggest detriment to successful investing is our own emotions. But I saw it over and over again during the crisis; people throwing in the towel at the worst possible moment because they lose faith. Too many ‘bad’ bankers and corrupt politicians etc. It sounded like people were selling stock not only out of fear, but out of anger. Brunson would tell these people, “don’t make investment decisions when you’re upset!”.
The Other Similarity
There are many similarities and I don’t intend to list them all up, but the other thing that struck me about poker and investing (and this is not from the Brunson book) is that in both, there are two types of participants;
- perpetual loser
- improving / studying winner
That’s kind of a sloppy way to put it, but I notice that in the stock market, many participants (particularly individual investors) often don’t put too much effort in trying to learn about how to become a good investor or trader; they just punt / speculate. When they make money, they are smart and brilliant and when they lose, the Fed screwed them. Or the greedy banks caused a great recession and that’s why they lost money. They were unlucky. In other words, it’s not their fault.
This is similar to what people say about poker players. Many of them do no work to improve, but they take pride in their wins, and when they lose, it was just bad luck.
Both poker and investing have enough of an element of luck for people to keep fooling themselves in this way (nobody would lose a chess game and say it was bad luck, for example). And there is enough element of luck such that people will tend to win every now and then with no preparation, and this gives them enough to sustain their ‘hope’. And this is what they lean on, not any serious work.
And there’s enough luck involved that many believe that it’s all luck (efficient market folks thinks it’s impossible to beat the market etc…). So therefore there is no attempt by these folks to work on their game.
And this is why it’s possible to win; this is why the pros constantly walk away with the money, whether at the poker table or the stock market.
Anyway, none of this stuff is new to experienced traders and investors (and of course poker-playing traders/investors).
But I wanted to highlight some of the things that really struck me (actually, it struck me the first time I read it a few years ago, but…). Also, it’s interesting to look at what we do through sort of a different lense. Am I playing too tight? Too loose? Am I being aggressive enough? Am I really a solid player or just tight? Or am I being timid?
Looking at your portfolio this way may tell you a lot about yourself and may even suggest ways to improve your investment performance.