The Stock Market Is a Casino Where Some Players See the Cards
People who would never enter a casino put their savings in the stock market, and they do it because they have been told the two are different. The market is investment; the casino is gambling. I want to grant that the market is a game of chance, since for most participants it plainly is, and then ask the question a gambler would ask: is the game fair?
What a Fair Game Is
A fair game is not one you are likely to win. Roulette is a fair game in the sense that matters here: every player faces the same wheel, the odds are printed on the table, and the house edge is known and identical for everyone. You lose on average, and you know exactly how much.
Fairness, in gambling, means that nobody at the table has information or an advantage that the others do not, and that whatever the house takes is disclosed. A poker game is fair when all players see the same community cards and the same number of their own. It stops being fair the moment one player can see through the deck.
Hold the market to that standard.
Who Sees the Cards
Information. A company's management knows its numbers before the market does. Its bankers, lawyers and large shareholders know a great deal before the small ones. Insider trading is illegal, and the law catches a fraction of it; but the legal version, in which analysts talk to management, funds hold private briefings, and the people close to a firm form a view weeks before the public filing, is not even a crime. It is the ordinary business of the industry. The small investor is playing poker against people who have seen his hand.
Speed. When information does become public, it reaches the professionals in microseconds and the public in hours. Whoever is fastest trades on the news before it is in the price, and the counterparty to that trade is whoever was slower. I have written about the speed race; the relevant point here is that a game in which one player acts on each card before the others have seen it is not one the others can win.
Access. The best opportunities are not on the exchange at all. Private placements, pre-IPO shares, the favourable tranche of a new issue: these go to clients of the right banks, and by the time an asset reaches the public market the people who had access have taken the easy part of the gain and are selling the remainder to you.
Fees. Between the saver and the market sit a broker, a fund, an adviser, a custodian and an exchange, each taking a slice. Individually the slices are small. Compounded over a working life they take a substantial share of the return, and unlike a casino's edge they are rarely stated as a single number the player can see.
Add these up and the picture is a table where a few players see most of the cards, act first on the ones they have not seen, get the best hands dealt privately before the game starts, and collect a rake that nobody has posted on the wall. That is not a fair game by the standard any casino regulator would apply.
But the Market Goes Up
The defence is that unlike a casino the market has a positive expected return: companies create value, and the patient holder shares in it.
This is true and it is the market's real merit. But notice what it does not say. It says the pot grows. It says nothing about how the pot is divided among the players. A game in which the pot grows five per cent a year while the informed players take six from the uninformed is still, for the uninformed, a losing game, and a slowly growing pot is exactly what hides the fact.
The honest way to state the small investor's position is: he receives the growth of the enterprise, minus what the better-placed players extract on the way. Whether the net is positive depends on how much is extracted, and he is not told.
What a Fair Market Would Look Like
The point of calling it a casino is not to close it. It is to apply the casino's rules.
- Information released to anyone is released to everyone at the same instant, and trading is paused until it is.
- Trades are matched in batches at intervals long enough that speed buys nothing.
- Every intermediary states, in one number, what share of the return it takes.
- Access to new issues is by lottery or by open auction, not by relationship.
None of these is exotic; each exists somewhere in some form. Together they would make the market what its defenders claim it already is: a game of chance with a positive expectation, fairly dealt. As it stands it is a game with a positive expectation for the house and its friends, and the rest of us are told we are investing.