Casino lessons – You never make money by betting against the house

I was recently reading the SEBI report on how Indian retail investors had lost more than ₹1,60,000 crore in the last 2 financial years, trading in derivatives. That takes me back to an interesting casino lesson I learnt about 20 years back.

Learning market lessons from the casino

Do you know how a stock market is similar to a casino? In both cases, the entry barriers are very high for the house, but very low for the participants. I had gone into a casino some 20 years back in Malaysia with a long-time casino veteran. What surprised me was that for the size of the casino and the number of people, the security persons were very few. My friend explained to me that the casinos only focus on the handful of persons who are winning consistently because they are winning against the house. The rest were the routine persons who lose money and make the casino profitable.

Why to never bet against the house

The moral of the story from the casino was; never to bet against the house. Most casinos are profitable because bulk of the people lose money and come back to recover that loss. Loss recovery is elusive, but greed is powerful. And that is how casinos sustain. In the casino business, betting against the house is not only tough, but also risky. This betting against the house theory stems from the fact that the overall return pool remains static over time. The question is who takes away these returns. In the context of Indian capital markets, the house is a large group of market intermediaries that have to inevitably make money and that takes away the profit potential of the large mass of retail investors.

Who is making money in Indian markets

Have you wondered where does the pool of money in Indian markets go? Let us look at some statistics. In a year, the 2 stock exchanges earn about ₹18,000 crore as transaction charges. The government of India will earn ₹90,000 crore from STT and ₹10,000 crore from GST on brokers. The top 10 brokers will earn revenues of around ₹40,000 crore from their stock market activities. Then, of course, mutual fund distributors take away about ₹30,000 crore as commissions and Asset Managers have combined PBT of ₹20,000 crore. Stock markets have low entry barriers, but your returns will come only after all these costs are paid for by markets. Which is why; trading is like betting against the house.

Am I suggesting that the market is like a casino?

Not exactly! Warren Buffet famously said that markets are a slotting machine in the short run but a weighing machine in the long run. If you are trading in the markets and trying to make profits, remember, you are betting against the house, and that house comes with a massive cost structure. You can make money only after that. Long term investments and SIPs do look like a free lunch in comparison. But here is a word of caution. The attractive returns you saw since 2023, may not repeat next year, when base year moves forward. The moral of the story is that betting against the house is never an easy task. The next time you make a loss in markets, don’t be overly surprised!