When panic is spreading, investors with strong nerves and an eye for bargains step in and buy, for that is when opportunities and bargains are best. These are two savvy investors; their comments are fascinating, and wise.
First detail that strikes me is the connection they make between gambling at card tables and buying and selling on 'Wall Street'. Yes, both pursuits are betting against the odds, thinking that the other guy is either dumber or more apt to make mistakes.
Edward Thorp's tactic of counting card is not allowed in casinos; obviously, it works, and too well for the taste of the house.
Second detail that jumps out: "Mr. Thorp ran two hedge funds, Princeton-Newport Partners and Ridgeline Partners, which went nearly 30 years without a down year, and averaged 19%-20% annual returns, he says."
Next detail: Bill Gross saying, "I had $200, so I headed out to Las Vegas. I turned my $200 into $10,000. I didn't care about the money. I wanted to prove that you could beat the system. Then I thought about what I could do that takes the same skills. I realized it was investing.""
There is a similarity of skills between card playing and investing in stocks and bonds.
To manage risks, Thorp says, "You have to make sure that you don't over-bet. Suppose you have a 5% edge over your opponent when tossing a coin. The optimal thing to do, if you want to get rich, is to bet 5% of your wealth on each toss -- but never more. If you bet much more you can be ruined, even if you have a favorable situation."
Gross adds, "[Kelly's] basic thrust concerns the idea of gambler's ruin, where you lose everything by over-betting. In the context of blackjack, you can never bet more than 2% of your stake without the possibility of eventually losing your entire pot. Here at Pimco, it doesn't matter how much you have, whether it's $200 or $1 trillion. You'll see it throughout our portfolio. We don't have more than 2% in any one credit. Professional blackjack is being played in this trading room from the standpoint of risk management, and that's a big part of our success."
Conituing, Gross says, "You don't always [know you're safe]. That's why you stick to the highest-quality investments. We were recently a big buyer of municipal bonds, one-billion-plus. How did we know we paid the best price? We didn't. What we did know was that these are double-A quality credits that have very little chance of going bankrupt. We jumped in and crossed our fingers."
And Thorp winds it up this way: "Fear creates opportunities. So as Bill was saying, this is probably a great time."
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