Q: Is the stock market just a glorified casino? Are all these "investors" really just gambling with their money in the same way someone is at a horse-racing track?
I'm still developing my thoughts on this question, but at the moment I think the answer is somewhere in the middle: the stock market isn't exactly the same thing as a casino, but it has the potential to share a lot (maybe all) of the elements of a casino.
Analogy with the Gun Debate:
At the moment it seems to me that finance is at least partially like the situation with guns: guns seem to be necessary for some portions of society (eg police, military), may be useful for other portions of society if used carefully and responsibly (eg as a deterrent against criminals, for self-defense [although these points are debated]), and may be a harmless pastime for still other portions of society if used responsibly (eg hunters). On the other hand, guns can be absolutely devastating if used by other portions of society, or if used improperly, or just as a result of accidents. And guns have been getting more and more powerful over time, so that a single person can do more and more damage.
To bring the analogy back: financial products (stocks, bonds, CDS) seem to be necessary for some portions of society (eg companies that need to raise money for safe projects), may be useful for other portions of society if used carefully and responsibly (eg investment professionals who know what they are doing), and may be a harmless pastime for still other portions of society if used responsibly (eg amateur investors who are careful to limit their losses). On the other hand, financial products can be absolutely devastating if used by other portions of society, or if used improperly, or just as a result of accidents (eg boiler room operations, penny stocks, the subprime mortgage bubble). And financial products have been getting more and more powerful over time, so that a single person can do more and more damage (eg single employees losing billions of dollars of banks' money).
Q: What have other people said about the social value of finance / speculation?
1880 - Speculation as a Fine Art and Thoughts on Life by Dickson G. Watts
Speculation as a Fine Art - What is Speculation?
Before entering on our inquiry, before considering the rules of our art, we will examine the subject in the abstract. Is speculation right? It may be quested, tried by the highest standards, whether any trade where an exact equivalent is not given can be right. But as society is now organized speculation seems a necessity.
Is there any difference between speculation and gambling? The terms are often used interchangeably, but speculation presupposes intellectual effort; gambling, blind chance.Accurately to define the two is difficult; all definitions are difficult. Wit and humor, for instance, can be defined; but notwithstanding the most subtle distinction, wit and humor blend, run into each other. This is true of speculation and gambling. The former has some of the elements of chance; the latter some of the elements of reason. We define as best we can.Speculation is a venture based upon calculation. Gambling is a venture without calculation.The law makes this distinction; it sustains speculation and condemns gambling.
All business is more or less speculation. The term speculation, however, is commonly restricted to business of exceptional uncertainty. The uninitiated believe that chance is so large a part of speculation that it is subject to no rules, is governed by no laws. This is a serious error. We propose in this article to point out some of the laws in this realm.
Source: "A Collection of 24 Stock Speculation Classics: Volume 1, 1880-1922"
2000 - Basic Economics by Thomas Sowell
Here's Thomas Sowell addressing the question of whether speculation is gambling:
Speculation is often misunderstood as being the same as gambling, when in fact it is the opposite of gambling. What gambling involves, whether in games of chance or in actions like playing Russian roulette, is creating a risk that would otherwise not exist, in order either to profit or to exhibit one's skill or lack of fear. What economic speculation involves is coping with an inherent risk in such a way as to minimize it and to leave it to be borne by whoever is best equipped to bear it.
Source: Basic Economics, Ch12, p195
2010.05.26 - Financial Crisis Inquiry Commission - Interview with Warren Buffett
Here's Warren Buffett on the difference between investing and speculation:
- at around 39:00 he talks about how he defines speculation vs investing vs gambling. he says the key to investing is looking at the income from the asset itself, while speculation is concerned with the "price action". if you care whether the stock market is open in the next year or few years, you're probably speculating. Gambling is participating in a transaction that doesn't have to be part of the system. For example, betting on the outcome of a football game doesn't need to happen in order for the football game to go on. However, if you're betting on the price of October wheat, that wheat DOES need to get sold and it does need to have a price determined.
2010.11.29 - New Yorker - What Good Is Wall St?
http://www.newyorker.com/reporting/2010 ... ntPage=all
2012 - The Social Value of the Financial Sector: Too Big to Fail or Just Too Big?
http://www.amazon.com/Social-Value-Fina ... 9814520284
As a result of the recent financial crisis, there has been significant public debate on the role of the financial sector in bringing about the "Great Depression". More generally, there has been debate about whether the current industry structure has enhanced social welfare or served a detrimental role. This book is a collection of papers presented at the conference held at the Federal Reserve Bank of Chicago, in November 2012 that examined the social value of the financial sector as currently structured. Issues evaluated include what are the perceived benefits and costs of the current financial system? How valuable have industry innovations been for society? Should regulation be used to "move" the industry in a direction thought to be more valuable for society? Should "big" banks be broken up? What are the welfare implications of the current industry structure? In the book, leading industry scholars debate these issues with a goal of influencing public policy toward the industry.
- it's a shame the book is so expensive
2008.05.15 - Art of Problem Solving - Quants discuss the social value of their work
http://www.artofproblemsolving.com/Foru ... 8&t=204998
2014 - Facebook - Quants discuss the social value of their work
This is a Facebook discussion that I'd like to spend some time thinking about later (so I'm pasting it here so I don't forget about it):
Unbeknownst to most people: nearly all trading profits on Wall Street are the result of identifying and exploiting some part of the chain of hurting people who won't hurt back. This is much of the reason that the only way to preserve any kind of balance is to play tit-for-tat. Also, be comfortable when people punish you for your mistakes, so long as they're willing to be straight-forward about it. Passive aggressive doesn't show up as a signal in the system, so it only causes more harm.
Sorry to burst anyone's bubble who thought that Wall Street was about putting capital to work. That's a very small portion of the game, and not nearly as profitable.
This is why people say they hate capitalism, even if they don't exactly know what's going on. It's not capitalism they hate. They just don't know a better word for it. But yes, it's ugly. And yes, nearly everyone involved is either naive (often willfully) or just plain evil.
Here's a question I often ask young people wondering why starting salaries on Wall Street are so much higher than even at Google: Is a first year trader really that much more productive than nearly everyone else in the world? If so, how have things changed in such a short period of time?
Efficient markets should have led to skinnier profits. Spreads are narrower. Fewer people than ever are needed to conduct enormous amounts of business. Yet, trading is more lucrative than ever. This is the historical high. What explains that?
What we've seen in recent history: an engineered mortgage market scam, ponzi schemes of unprecedented proportions, banks profiting from laundering cartel money, the U.S. government infultrating Swiss banks, a massive proliferation of put selling schemes, a massive proliferation of shotgun business development (think Donald Trump if that description doesn't make sense), mafia rigged bond lotteries (Japan), and an ex-president taking upward of $100 million in...speaking fees from Wall Street. Were I to spend more than 5 minutes thinking about it, I'm sure I could make this list two to three times as long without getting to the small stuff. And the street is also chock full of small stuff.
"For instance, hedge funds were mostly not involved in these events."
I worked for some of those hedge funds. Here's one of the trades I made: I bought and sold Japanese lottery bonds based on a clever method for sampling the lotteries for levels of corruption (rigged lotteries by the Yakuza). In essence, I helped a hedge fund profit, yes, but the fat itself only existed due to corruption.
Here's another example: the exchanges. I worked on the CBOE and at the CBOT. The rules there were set up in a way to keep competition out (to keep spreads up).
Why are banks so clumsy with their trading in general? Because every hedge fund that profits is essentially sharing in drug profits and political deal-making by proxy. When those profits are generously spread around, nobody is going to blow the whistle. This is one scenario, but the games are numerous.
Many honest traders participate, but are making what amounts to spillover money from a highly rigged system.
Am I demonizing everyone? No, I don't demonize the naive. But like I said, I do want to inform them. I don't want them to remain naive.
Q: What would happen if the US government outlawed retail brokerage accounts? What if the stock market was limited to investors managing funds of a certain size, say $10 million?
This is a pretty interesting thought experiment to think about...I'll need to think about this for a while.
Q: What exactly do we mean by "gambling"? Is a successful professional poker player "gambling"?
1. One sense of "gambling" is "risk taking" where it seems possible that the odds may be in your favor. For example, there are 10 minutes left before the parking meters go offline and you decide to not put a quarter in it and just take the chance that no parking enforcement officer will come by in those ten minutes.
2. Another sense of "gambling" is an activity in which a person has become conditioned to respond to a stimulus because of the pattern of reinforcement that person has been exposed to. In these situations it can be clear to you that the odds are not in your favor and yet you will continue to compulsively gamble because you have been rewarded in a particularly-addictive way.
- The professional poker player may not be taking risks, but if we are judging the game as a whole, and not just the successful professional poker player, we could say that the game as a whole is not adding any value to the life of the average player. It's just redistributing income.
[Potential counter-argument that I need to flesh out to see if there's any weight to it: There could be value added. Excitement for the poker players, and in the stock market it could help companies make decisions for the future.]
Main Idea: There are a lot of similarities between investing and gambling:
Main Idea: In one sense, gambling is an unavoidable part of life:
When you step outside of your house you are gambling that nothing is going to kill you because of that decision. When you use a car to drive around you are gambling that the benefits of using the car outweigh the potential costs (getting into an accident, injuring / killing yourself).
Quora - What's it like to earn a living by playing poker?
http://www.quora.com/Poker/What-is-it-l ... ough-poker
Most of the money is being made of bad recreational players. And most of those are slowly getting sick of it, and figuring out that they are the suckers. And there are more and more part time students who learned the game and are now competing for this decreasing pool of suckers, or fish as we call them.
Sometimes there is a big fish playing these stakes online with up to 100k$ buyins. Guy Laliberte, the guy who runs Cirque du Soleil lost more then 30 million $ playing online in a few years. And some russian who is rumored to be Roman Abramovich also lost millions just to name a few. Basically winning money from these guys is like taking candy from a baby if you know what your doing (and can stomach the swings). Quite a few college students got rich on these guys .
But often they just play each other to try and see who's the best and craziest. Because there aren't many fishes at stakes this high. You have to understand that the variance is extreme here, and sometimes the best player can lose his bank roll or break even for a year.
Sometimes if the games were good (lots of fish online) and things were going well I could play for days at a time. If the games were bad (filled with regulars), I was burned out, or just if I had something better to do there was no need to work.
The majority of your winnings come from fish so the most profitable players are generally those who can hunt these bad players the best. This doesn't bother most people since all players enter into an implied social contract upon sitting down but it does encourage some borderline behavior. If you don't believe me, step into a casino poker room sometime... not exactly the type of company you would choose to marry your daughter.
Lesson: There seem to be a lot of parallels between the way these poker players describe unsophisticated players and the way people in finance describe unsophisticated investors.