Randomness – It’s Not The Cards You’re Dealt, It’s How You Play Them


Randomness – It’s Not The Cards You’re  Dealt, It’s How You Play Them by Vitaliy Katsenelson, CFA

Flamenco Dance

“Flamenco Dance” is by my father Naum Katsenelson

After A Tough Year, Odey Asset Management Finishes 2021 On A High

For much of the past decade, Crispin Odey has been waiting for inflation to rear its ugly head. The fund manager has been positioned to take advantage of rising prices in his flagship hedge fund, the Odey European Fund, and has been trying to warn his investors about the risks of inflation through his annual Read More

Before I get to my musical note, I want to mention that I’ve created a new website called My Favorite Classical Music.  I basically took all my music notes from past emails and organized them there by date, composer, and performer.  Take a look – I’d love to hear your feedback.

In today’s musical note (from http://myfavoriteclassical.com/) I want to share with you Danse Macabre (“Dance of Death”) by French composer Camille Saint-Saens.

In this symphonic poem (music that literally tells a story) Death summons the dead from their graves to dance at midnight on Halloween.  To signify midnight, this piece starts with twelve repeated notes from the harp.  A solo violin portrays Death as it plays for the dead to dance for him (or her).

I doubt Disney will be scaring little kids by making another Fantasia based on this story, but the music is so vivid with images, you don’t need Disney’s animators.  Just close your eyes and you’ll see a dark red sky, the Devil (Death) playing violin, and dancing skeletons.

Here are several performances.  (It has been transcribed to various instruments; the piano transcription is by Franz Liszt.)

Orchestral version

Two pianos by the sisters Gromoglasova

One piano

Electric guitars

Violin and piano

I wrote this article for the Financial Times in 2006 – yes, ten years ago.  FT editors transcribed my American English into British, as you’ll notice when you see favor spelled as favour or minimize as minimise.  I figure that since we are renting their language, I might as well keep the article in the original (British) version. 

Some of  you, when read this, may think I made it up.  Not at all.  It’s a true story.  My partner at IMA, Michael Conn, and I drove to Albuquerque for a day.  We had time to kill in the evening and stopped by an Indian casino.  This was 2001 my son Jonah was just a few months old, and I was  guilt-ridden because I wouldn’t see him for a day or two. (That was before Facetime and Skype.) 


It’s Not The Cards You’re  Dealt, It’s How You Play Them

by Vitaliy Katsenelson, CFA / Financial Times

“Any time you make a bet with the best of it, where the odds are in your favor, you have earned something on that bet, whether you actually win or lose the bet. By the same token, when you make a bet with the worst of it, where the odds are not in your favor, you have lost something, whether you actually win or lose the bet.” — David Sklansky, The Theory of Poker

Over a lifetime, active investors will make hundreds, often thousands, of investment decisions. Not all of those decisions will work out for the better. Some will lose and some will make us money. As humans we tend to focus on the outcome of the decision rather than on the process.

On a behavioral level, this makes sense. The outcome is binary to us – good or bad, we can observe with ease. But the process is more complex and is often hidden from us.

One of two things (sometimes a bit of both) can unite great investors: process and randomness (luck). Unfortunately, there is not much we can learn from randomness, as it has no predictive power. But the process we should study and learn from. To be a successful investor, all you need is a successful process and the ability (or mental strength) to stick to it.

Several years ago, I was on a business trip. I had some time to kill so I went to a casino to play blackjack. Aware that the odds were stacked against me, I set a $40 limit on how much I was willing to lose in the game.

I figured a couple hours of entertainment, plus the free drinks provided by the casino, were worth it. I was never a big gambler (as I never won much). However, several days before the trip I had picked up a book on blackjack from the deep-discount rack in a local bookstore. All the dos and don’ts from the book were still fresh in my head. I figured if I played my cards right I would minimize the house advantage from 2-3 per cent to 0.5 per cent.

Wanting to get as much mileage out of my $40 as possible, I found a table with the smallest minimum bet requirement. My thinking was that the smaller the hands I played, the more time it would take for the casino’s advantage to catch up with me and take my money.

I joined a table that was dominated by a rowdy, half-drunken blue-collar worker who told me several times that it was his payday (literally: he was holding a stack of $100 bills in his hand) and that he was winning. I played by the book. But it didn’t matter. Luck was not on my side, and my $40 was thinning with every hand.

Meanwhile, the rowdy guy was making every wrong move. He would ask for an extra card when he had a hard 18 while the dealer showed 6. The next card he drew would be a 3, giving him 21. Then the dealer would get a 10 and then a 2 (on top of the  6 that already showed), leaving him with 18. The rowdy guy barely paid attention to the cards. He was more interested in saying “hit me”.

Every “right” decision I made turned into a losing bet, while every “wrong” decision he made turned into a winner. His stack of chips was growing while mine was dwindling. His loud behavior and consistent winnings attracted several observers. Some were making comments such as “This guy is good.” Nobody paid attention to me – I was not loud and I was losing.

The rowdy guy had no process in place. He was just making half-drunken bets that had statistical improbabilities of success. And he was winning, at least for a while. I was armed with statistics, making every bet to maximize my chances of winning (actually, to minimize my losses – the odds were still against me) but I was on the losing side of the game.

After a couple of hours, and consuming more of the “free” alcohol, my rowdy companion was increasing the size of his bets with every successful hand. The law of large numbers caught up with him. He gave up his winnings and his pay cheque as well – two weeks of hard work rightly went into the casino’s coffers.

I was down to a couple of dollars at one point. But then my luck changed and I won the bulk of my money back. In the end I lost only $10. This was a successful deal. I’d had a couple beers, spent a couple of hours gambling and learned a valuable gambling/investing lesson about the value of the process.

What is the lesson? Spend more time focusing on the process than on the end results. If it was not for randomness, every decision we made would be right or wrong based solely on the outcome. If that were the case, the process could be judged solely on the end result.

But randomness is constantly present in investing (as it is in gambling). Though we are drawn to judge our own decisions, and those of others, on their outcomes, that is dangerous. Randomness may teach us the wrong lessons.

Here is IMA’s investment process presentation

Are you enjoying my articles?  If so, please forward them to your friends, enemies, neighbors, and random strangers.  Suggest that they sign up for my future articles (or you’ll have to keep forwarding them).

The Little Book Of Sideways MarketsIf you have accumulated a mid-six figure portfolio and will benefit from our investment services, drop us an email at [email protected] or call Theresa at (303) 796-8333 and we’ll be happy to mail you a signed copy of The Little Book of Sideways Markets.

Vitaliy N. Katsenelson, CFA, is Chief Investment Officer at Investment Management Associates in Denver, Colo. He is the author of Active Value Investing (Wiley) and The Little Book of Sideways Markets (Wiley).

His books were translated into eight languages.  Forbes Magazine called him “The new Benjamin Graham”.   To receive Vitaliy’s future articles by email or read his articles click here.

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I was born and raised in Murmansk, Russia (the home for Russia’s northern navy fleet, think Tom Clancy’s Red October). I immigrated to the US from Russia in 1991 with all my family – my three brothers, my father, and my stepmother. (Here is a link to a more detailed story of how my family emigrated from Russia.) My professional career is easily described in one sentence: I invest, I educate, I write, and I could not dream of doing anything else. Here is a slightly more detailed curriculum vitae: I am Chief Investment Officer at Investment Management Associates, Inc (IMA), a value investment firm based in Denver, Colorado. After I received my graduate and undergraduate degrees in finance (cum laude, but who cares) from the University of Colorado at Denver, and finished my CFA designation (three years of my life that are a vague recollection at this point), I wanted to keep learning. I figured the best way to learn is to teach. At first I taught an undergraduate class at the University of Colorado at Denver and later a graduate investment class at the same university that I designed based on my day job. Currently I am on sabbatical from teaching for a while. I found that the university classroom was not big enough for me, so I started writing and, let’s be honest, I needed to let my genetically embedded Russian sarcasm out. I’ve written articles for the Financial Times, Barron’s, BusinessWeek, Christian Science Monitor, New York Post, Institutional Investor … and the list goes on. I was profiled in Barron’s, and have been interviewed by Value Investor Insight, [email protected], BusinessWeek, BNN, CNBC, and countless radio shows. Finally, my biggest achievement – well actually second biggest; I count quitting smoking in 1992 as the biggest – I’ve authored the Little Book of Sideways Markets (Wiley, 2010) and Active Value Investing (Wiley, 2007).
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