“Long periods of boredom followed by moments of sheer terror.”
― Tom McEvoy, Professional poker player
Poker is not won with good luck, and it can be lost with bad money management. The same holds true for trading and investing. Comparisons between the market and the poker felt go beyond luck and money management, and include managing your emotions and analyzing a position – two keys in both games.
The emotional roller coaster of “sucking out on the river” can feel like being short into the “flash crash.” Calculating the odds of completing your “double belly buster” is comparable to analyzing the chances of a “double top breakout.” Apparently, knowing the jargon is important in either arena, too.
None of which can be used profitably without understanding “execution.” Different from the underlying rules, execution refers to the various decisions made while playing a hand – or while owning a stock. All poker players must follow the same set of rules, such as knowing the order of events, unallowable actions, and how winners are determined. Market participants also share a common set of rules. Thoughtful execution by each player or trader can lead to profitability.
Shuffle Up and Deal
A poker hand begins with the player receiving two cards. Except for a “blind” bet that is forced on two players at the start of each round, the player can choose whether to bet on his initial cards. Maybe those two cards were too low and too far apart (e.g. 2-7, or 3-10) to be worth an investment. Similarly, a trader is not forced to trade a particular stock at its current price, and can wait for a better price in that stock. Or, like the poker player waiting for another deal, the trader may search for another stock whose price is attractive for his funding, or appropriate for his portfolio. Perhaps the poker player would have played his medium hand (6-6, or A-3 suited) if players before him had not already bet and raised. In the same way, buying into a reasonably priced stock is actually relatively expensive if the broader market has recently rallied strongly.
Flop
The ever-changing environment now has a direct financial impact on both the player that called the first round of betting, and on the trader whose order has been filled. The two-card poker hands now see a “flop,” which is three cards that all remaining players can use to improve their hand. Market action usually affects a stock to some degree – some estimates consider 75% of an individual stock’s fluctuation to be caused by broader market action. The player can read the flop’s “texture” and the trader can review market internals and technicals. If the odds favor it, then the player and the trader can bet more to take advantage of the environment. Based on the texture of the flop, the poker player may also decide how big of a bet he will not call, much the same way that a trader may adjust his stop.
Turn
Still in? The “turn” card is dealt, which is another community card that players can use if it improves their own hand. A lot of winning hands are made by this card. And since only one more card will be seen, a lot of hands that haven’t yet been made will fold. It’s an opportunity to bet more, whether to get more value for a strong hand, or to get rid of weaker hands. A stock position’s equivalent to a favorable turn card would be a breakout in its chart, or if trending has resumed – anything bullish, like recovering quickly from a deep intraday dip. Essentially, any development that improves the chance for price trending would argue for increasing the position size, since the position is proving to be attractive.
River
The final community card is called the “river.” It is the last chance for a player to fold or to bluff other players into folding their own hands. In the market, too deep of a pullback can trigger a stop before recovering, essentially bluffing you out of your hand. Traders don’t bluff – but they can try to detect “tells” in corporate earnings releases that may be bluffing. Some players still in the hand at this stage are hoping that last card completes a straight draw or a flush. Many professional poker players will agree that the river is a little late in the hand to be betting on hope. Hoping is not valid as an investment strategy either. And, yet, no trader can honestly claim not to have relied occasionally on it – especially not ex-traders. If the river card were to complete that draw, or if quarterly earnings were to prove the stock’s recent dip was too pessimistic, both the player and the trader will try to increase their bet.
Showdown
It’s over. Hole cards are revealed at and the best poker hand is determined. The winner at the end was not necessarily the best hand at each stage. But the fluctuation along the way is irrelevant to the “showdown” where only one player takes the money off the table. Stock trades can fluctuate widely, too, but it’s all on paper until taking your money off of that table. Fortunately for traders, the market pays every profitable stock position, unlike poker which pays only the best hand.
Conclusion
Poker is a metaphor for the market, and the market is a metaphor for life. Nothing is perfectly analogous, but everything is interchangeable at some level. Even Tom McEvoy’s quote above about poker was first uttered about war more than a century earlier, and then about flying an airplane. Experience from one pursuit can offer lessons for another. So, think twice about going “all-in” on a stock position. And don’t forget to tip your dealer.