Why it’s hard to get rich quickly

Sunday Times Singapore, 15 Aug, 2010, Sunday

YOUR LETTER

Why it’s hard to get rich quickly

I refer to the previous Sunday’s article, ‘Stock investing is different from gambling’. Mr Brennen Pak did a good job of explaining some of the differences between gambling and investing.

There are more. Most importantly, gambling is a zero-sum game where one party wins, the other loses and a middleman takes a cut. The middleman’s cut means the games are actually negative sum – sure lose.

Singapore Pools and the casinos take large cuts, which means sure lose quickly. It’s a sucker’s game, but Singapore Pools has the redeeming quality that its income goes to causes which benefit the nation.

Most dangerous are zero-sum games that look like investments but are actually gambling. Examples are derivatives such as futures, options and structured warrants. Currencies are also zero-sum.

It means that for each dollar lost by one person, a dollar is won by a counter-party. Subtract commissions and less than $1 is won. The zero-sum game becomes negative sum and, like gambling, it is sure lose.

Sellers argue that derivatives are for short-term trading, and can make money if it is somehow possible to see into the future. The problem is, it’s not. Studies have shown that predicting the short-run prices of equities – like shares and property – is not possible without insider information, which is hard to come by and usually illegal to use for trading.

The long run is a different story. Positive returns are practically a sure thing for equities and have averaged around 9 per cent a year over the past 30 years. It is why a buy-and-hold strategy works for shares and properties. It works for bonds too, where returns are more certain but lower.

One could also try to buy and hold derivatives for the long run by rolling over the contracts year after year. The problem is that commissions pile up with each rollover and would eventually drain the initial capital until it’s a total loss. That is the story for equities and derivatives for the long and short runs.

Equities are sure win in the long run. All other strategies are sure lose.

Sorry, but it’s hard to get rich quickly.

Larry Haverkamp (Dr Askmoney)