There is a reason why the house always wins: They have a small advantage.
A blackjack dealer once told me that in 20 years, he never saw the house lose on a roulette table. His best friend was the accountant. The accountant used to show him the monthly statement. It was uncanny how the amount of money they made was so predictable.
People win in roulette. A lot of people win.
But more lose. It’s simple math:
A roulette wheel has 38 spaces. 18 are red and 18 are black. Two are green. If you bet red or green, you have an 18 out of 38, or 47.4% chance of winning.
That’s not bad. It beats the odds of winning at the slot machines.
But if you have a 47.4% chance of winning, the house has a 52.6% chance of taking your money.
They have a 5.2% advantage.
That small uptick in probability is how casinos make $13 billion each year.
Why can’t we do the same?
When you buy a stock, you have to recover commission costs. If you are leveraged, you have to pay back the interest on the margin loan you took out.
For a naked buy, the house is up the moment you begin.
Say you have a $30,600 position in MSFT. The commission is $25, and you put in $20,000 of your own money. MSFT is trading at $306 so you bought 100 shares.
You hold for a month. You have to pay $25 to buy, $25 to sell, and if your margin loan has the standard 18% annual interest rage, that's 1/12 of 18%, or 1.5% interest on $10,600, which is $159.
The moment you buy, you are already behind $209, or 1% of your holdings. Microsoft has to jump $3 for you just to get started.
That's how the banks and Wall Street Brokerages play the house in trading.
The weaknesses both casinos and brokerage houses capitalize on are impatience and greed. They know that once you smell all that money, you can't resist.
All it takes is a handful of stories about people that bet it all and hit the jackpot. They never tell you about the people who bet it all and came home broke.
It's the same with trading. You hear about the Mark Zuckerbergs and Elon Musks who amassed billions in equity while they were still in their thirties. We grow up with the Bill Gates and Jeff Bezos, who are candidates to become the world’s first trillionaires, all due to their stocks.
We smell the sweet candy scent of the ones who made it. That's how they get you. They dangle that right in front of you as if it's there for you to grab.
It's all there to hypnotize you into getting impatience and greedy. The more impatient, the more greedy. The more greedy, the quicker you hand them your money.
What did Robert Dinero say in the movie, Casino?
In gambling, no matter how patient you are, the house will always have the advantage.
Trading is different. If you have patience, and aren't too greedy, you can turn it in your favor.
What if you issued call options against a long position?
What if you sold 1 call contract at $8 to sell MSFT at $315 in 30 days?
That's an immediate income of $800. Even after commission and interest on your entire position, $591. Now you are up 1.6% for just one month and you retain the chance to make another 3%.
If the stock hits $315, you make $1,491, or 4.9%. If it doesn't, you keep the $591 after commission and margin interest charges are settled.
In a naked buy, the breakeven point is $309. In the written call, your breakeven is $300.
Instead of beginning the game down 2-0, you start off up 5 points.
That's the power of Holding the House's Edge.