Articles about poker and investing

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From Poker to Investing: 10 Tips From the MCU
A few weeks ago, Fool contributor Jeff Hwang discussed how beating the stock market is theoretically similar to beating blackjack. This week, Jeff uses 10 tips from the Mike Caro University of poker to explain how many of the concepts required in playing profitable poker also apply to successful investing over the long run.
By Jeff Hwang
April 19, 2005
I just picked up my copy of poker legend Doyle Brunson's Super/System 2, a modern-day version of the book deemed "poker's bible," which was published back in 1978. The original Super/System featured contributions from experts on several of the most popular poker games, including Bobby Baldwin's section on Limit Hold'em, Mike Caro's course in draw poker, and of course Doyle's legendary gospel on No Limit Hold'em. Super/System 2 does much of the same, while introducing new material on such things as online poker and WPT Enterprises' (Nasdaq: WPTE) World Poker Tour.
But flipping through the new book, the one section that really caught my eye was "43 Exclusive Super/System 2 Tips From Mike Caro University (the MCU)."
As the title of the chapter suggests, Mike Caro -- a leading poker teacher, a theoretician, and the "Mad Genius of Poker" -- offers 43 tips and concepts to playing profitable poker. Most of the tips are poker-specific, but many are concepts that also apply wonderfully to investing. Below and in Parts 2 and 3, we'll discuss how 10 of these tips -- taken from the "Insight and Attitude" section of the chapter -- can enhance your chances of successful investing over the long term.
MCU Tip No. 2: Money you don't lose buys just as many things as money you win.
The lesson: Save money by lowering risk and avoiding overpriced stocks.
The first and most profitable lesson I learned as a poker player was how to save money. When I first started playing Hold'em, I had a tendency to overbet. Sometimes I would bet a marginal hand on the end -- hoping my opponent would fold -- when the correct play would be to check and showdown. Basically, I would unnecessarily risk more of my money than either the cards or the money in the pot warranted.
In poker, most of the money you win is money that is given to you by bad players, rather than money that you earn. And similarly, one of the keys to increasing your profit is reducing the amount of money that you give away.
Investing in stocks is no different.
While we aim to beat the market, a Foolish investor's No. 1 priority is the preservation of capital. After all, it doesn't do much good to beat a market average if it means we lost money.
Save money and protect the downside in your investments by reducing the risk in your portfolio, and avoid overpaying for stocks. Better yet -- as I wrote last month in "Rule Breaking With Less Risk" -- focus on high-quality businesses with strong brands such as Coke (NYSE: KO), Starbucks (Nasdaq: SBUX), or McDonald's (NYSE: MCD), seek undervalued stocks, and buy with a margin of safety.
MCU Tip No. 7: If one pro plays twice as many hands as another, both might earn the same profit.
The lesson: It's better to have a few superior stocks in your portfolio than to diversify by adding marginal companies.
It's generally wise for investors to have some level of diversification in their portfolios, but one common error is over-diversification. Concentrate your portfolio on the stock ideas that best fit your criteria: Great businesses at good-to-great prices. Don't add stocks simply for the sake of diversification -- every stock you buy that doesn't fit the bill necessarily reduces the quality of your portfolio.
If your top stocks make up such a great percentage of your portfolio that you are uncomfortable, consider an index fund or index-tracking exchange traded fund such as S&P Depositary Receipts, or check out Shannon Zimmerman's Motley Fool Champion Funds for mutual fund ideas.
MCU Tip No. 4: You don't get paid to win pots; you get paid to make the right decisions.
The lesson: Ignore short-term results, and focus on how you played the game.
The game of blackjack is my favorite proxy for this one.
Blackjack is a game of decisions, yet there is no thinking. A perfect basic strategy player knows the best long-term play for every situation he is dealt, and he can know to the hundredth of a percent the house advantage against him just by looking at a chart. In a theoretical game, even a card counter playing with an edge over the house does no thinking; he already knows what his advantage/disadvantage is at any point in time, the size of his bets are predetermined by the size of his advantage and the size of his bankroll, and his playing decisions are also predetermined by the counting method he is using.
With that in mind, a blackjack player knows exactly what he expects to win or lose over the long run. Yet over the short term, results vary wildly.
For example, anybody who's ever seen the movie Swingers with Jon Favreau and Vince Vaughn knows that you "always" double down on 11 (taking exactly one more card while doubling your bet). That's not entirely true, but it's close enough. The point I will make is that it is always correct to double down on 11 when the dealer is showing 10 or less (unless you are counting cards), and a player should always double down in those situations because it is the best play and the right decision.
But even though doubling on 11 vs. a dealer's 10 or less is by far the best play over the long run, a player could conceivably do so and lose 10 or 15 times in a row!
A gambler might experience this, panic, and refuse to double in the same situation in the future. But an investor knows that doubling is the best play, and he knows that he will profit far more over the long run by continuing to double down rather than the alternative (which in this case is merely drawing another card). That said, investors should ignore short-term fluctuations in stock price and focus on making the right decisions. Doing so will pay off greatly in the long run.
On to "Part 2: Always Look Ahead" and "Part 3: Don't Chase Losers."
Fool contributor Jeff Hwang owns shares of Starbucks.

From Poker to Investing: Always Look Ahead
By Jeff Hwang
April 20, 2005
In Part 1, we took three of poker theoretician Mike Caro's tips from Doyle Brunson's Super/System 2 and applied them to investing. In Part 2, we will take a look at three more tips from the Mike Caro University (MCU) and discuss the importance of valuation, being a forward-looking investor, and the idea that investors do not get bonuses for making tough choices.
MCU Tip No. 1: In the beginning, everything was even money.
The lesson: An investor's advantage comes from the ability to gauge valuation and expectations.
As Matt Damon said in the movie Rounders, "Get your chips in when you have the best of it; protect them when you don't." That's the key. The question: How do you know when you have the best of it?
The answer: By understanding valuation.
In poker, every player gets dealt the same cards over the long run. The fundamental difference between long-run winners and losers is an understanding of value -- the value of the cards you're dealt, the value of your position relative to the other players at the table, and how the value of your cards changes given the actions of the other players at the table.
Similarly, investors for the most part are all choosing from the same field of stocks. And the one thing that separates the investor with a winning long-term strategy apart from everybody else is the ability to appropriately value stocks. After all, if you have no idea when a stock is cheap or expensive, how are you going to know when to buy, sell, or hold?
That said, it is not enough to go out and buy Home Depot (NYSE: HD) or Best Buy (NYSE: BBY) simply because you like the stores and both companies are top players. Get an idea of what the stocks are worth -- compare P/E ratios, cash flows, dividend payouts, or whatever else you think is relevant.
Or if you're interested in a growth business that is difficult to value -- such as satellite radio plays XM Satellite Radio (Nasdaq: XMSR) and Sirius Satellite Radio (Nasdaq: SIRI), or Motley Fool Rule Breakers selection Overstock.com (Nasdaq: OSTK) -- at least have a gauge on where you expect the company to be four or five years down the line. If your expected return from the current stock price doesn't justify the risk, then at least you know not to buy.
MCU Tip No. 11: Poker's stupidest question: "Why didn't you quit when you were $17,000 ahead?"
The lesson: Always look ahead. If the business quality and valuation favor a hold, then the correct decision is to hold on to the stock.
Top poker pro Phil Ivey -- often referred to as the "Tiger Woods of Poker" -- once said in a TV interview that so long as you're playing well and the game is good, it is to your advantage to keep playing until the game breaks up or you get tired.
This makes perfect sense. If a stock you buy doubles or triples but the long-term prospects for the business and the stock's valuation are still favorable, then why sell? And when the stock falls 20% in the short term for no good reason, don't panic and kick yourself for not selling -- this is the time when long-term investors salivate and get greedy.
Example: Ameristar Casinos, March 2003 to February 2005
Here's an example. A little more than two years ago in March 2003, I did a write-up on Ameristar Casinos (Nasdaq: ASCA) -- a top-notch riverboat casino operator with rapidly growing market share and arguably the top property in every market in which it competes -- and recommended the stock at just under $11 per share.
At the time, the company carried an enterprise value at about 5 times to 5.2 times the company's estimate of $190 million to $200 million in 2003 EBITDA, a valuation that is on par with the weakest players in the industry. As a premium player, I felt the company was worth at least 6 times EBITDA, if not closer to what premium players such as rival Harrah's Entertainment (NYSE: HET) should have reasonably fetched at the time at 7 times or 8 times EBITDA. I felt particularly strong about this, as at the time Ameristar held its market position while competing against Harrah's in each of its four riverboat markets in Missouri, Mississippi, and Iowa.
So there was plenty of headroom here. At 6 times the low-end estimate at $190 million in 2003 EBITDA, the stock would be worth $16.50. At 7 times, the stock would be worth $23.75, and at 8 times EBITDA, the stock would be worth $31 per share.
By April 8, 2004, the stock had hit $37.75 for a clean triple-plus, yet the company was still trading at just more than 6 times 2004 EBITDA, a clear hold at the very low end of my estimate for fair value. But by July 27, the stock had fallen back to $30.45, before dropping 16% to $25.65 the next day following the company's second-quarter earnings report.
But here's the thing: The business was still strong, the prospects were bright, and now the company was trading at a measly 5.5 times to 5.8 times 2004 EBITDA. At this point, the stock was a clear buy.
Ameristar continued to perform as a business, and casino stocks in general had gained favor on Wall Street. And on Feb. 4, the stock closed at $49.55 following the company's fourth-quarter earnings report, almost a double from its panic price just six months earlier. The stock is now trading at around $55 as of today.
The point here is that it would have been way too easy for an investor to panic sell once the stock fell from $37.75 to $25.65 in a span of less than four months. It also would have been way too easy to curse yourself for not selling at $37.75 while you were 250% ahead. But the enterprising investor armed with MCU Tip No. 1 -- valuation gauges -- can see the value in holding at $37.75 when the stock is reasonably valued or better, and can get greedy and push his chips in when the company is dirt cheap at $25.65 and 5.5 times to 5.8 times EBITDA.
The ability to do so will reward an investor handsomely over the long run.
MCU Tip No. 14: Beating strong foes wins much respect and little money; beating weak foes wins little respect and much money.
The lesson: Investing is about what makes the money in the long run.
Remember: Investors get paid for making correct decisions. There is no bonus for attacking complex companies, or making tough choices. Often times, you'll find that the best investment decisions you make will be both simple and obvious.
On to Part 3: Don't Chase Losers.
Fool contributor Jeff Hwang owns shares of Overstock.com and Ameristar Casinos. The Motley Fool is investors writing for investors.



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