FOOL ON THE HILL
Gambling On the Stock Market

Horse racing columnist Andy Beyer persuasively argues that stock market investors are no less gamblers than horseplayers. In addition, horse racing is more honest and better regulated. But horseplayers have one huge disadvantage, and that is a 20% "commission" on every wager they make. With minimal effort, market investors can do better... but they must demand accountability.

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By Rex Moore (TMF Orangeblood)
January 30, 2002

Ahhh, Enron and Arthur Andersen, just look what you've done to us now. It's certainly not all your fault, but you were the straws that broke the camel's back. Or in this case the horse's back, as the world's top thoroughbred racing columnist is taking the U.S. stock market to task for its corruption.

Andy Beyer has penned his columns for the The Washington Post for nearly a quarter of a century, has written four books, and is the master of his trade. He's also quite fed up with the negative image associated with horseplayers, and the notion that putting your money on a horse is gambling, while putting it on a stock is "investing."

Beyer persuasively argues in his Jan. 25 column not only that both pursuits should be considered gambling, but also that horse racing is less corrupt than the markets. "There will be cheating in any activity involving big money," he says, "but compared to the stock market, horse racing is honest and well-regulated." And, he continues, "If you added up the dollar total of all the larceny in the history of horse racing, it would be a tiny fraction of the money defrauded from the public in the Enron scandal alone."

And you know what? As I watch several more minutes of sickening Enron/Andersen details play out on the network news this evening, I know Beyer is right. Pro forma earnings, evasive investor relations departments, arrogant executives, Wall Street analysts with huge conflicts of interest... it's enough to make you scream, and that's just the legal stuff! The U.S. financial markets may be the most honest in the world, but they're gaining a bad reputation and things will get dangerous if investors continue to lose confidence.

For those unfamiliar with the sport, real horseplayers are a dedicated bunch that spends hours poring over data in order that they might make an informed decision. Many are able to bet the races profitably. As one who has spent many hours at the track, I can tell you that most of the serious players are acting on more information and are making better-informed decisions than those who invest in the market after doing little or no research.

Despite all that, Beyer points out the one obstacle that makes beating the horses extremely difficult: the takeout. On average, 20% of every dollar pushed through the betting windows is taken out of the payout pool. The money goes to the racetrack, the state, and horsemen in the form of winning purses.

That is the "commission" each horseplayer must face. As Beyer says, "If legendary investor Warren Buffett had to pay a 20 percent fee on every transaction, he'd be operating a Pepsi stand in Omaha." While that may not quite be true -- Buffett trades infrequently, after all, and would have done well over the years regardless -- Beyer's point is well-taken.

(It is worth noting at this point just how horrible of a deal state governments present us in the form of the lottery. The typical takeout is a staggering 50%. Don't get me wrong; I have nothing against folks playing on an occasional basis just for the fun of it. But the odds of winning a big payout are astronomical: You have a 600 times greater chance of being struck by lightning than hitting the California Super Lotto Jackpot, for instance, and you are three times more likely to be killed in an auto accident while driving to buy your lotto ticket than you are of winning the jackpot. And yet, states buy billboard and television ads imploring you to play so you can "strike it rich!")

So that, dear investor, is our big advantage: The cost of playing the game. If we're smart, we can push down our commission costs to miniscule levels and have virtually all of our money working for us. There are plenty of people who play the horses profitably, and many who actually make their living doing it. But they have to leap that enormous 20% hurdle every year (in addition to other expenses like parking, admission, and the Daily Racing Form). Stock market players, on the other hand, can deposit money on a regular basis into a total market index fund, and know that in 20 or 30 years they'll likely be far better off than if they had stuffed the money under a mattress.

But make no mistake. It is gambling in the strictest sense of the word. If you're not careful, you could lose everything. The bankruptcies of Kmart (NYSE: KM), Global Crossing (NYSE: GX), and Excite@Home -- companies that did not engage in any wrongdoing -- remind us just how dangerous it can be under the best of circumstances. Throw in the scandals where management is actively working to defraud you, and you begin to see Beyer's point. It's hard to disagree when he says it's wrong to think "playing the horses is a self-destructive or immoral activity while playing the market is somehow sanctified."

It is my firm belief that the stock market is the best place for my money, but I realize it's not a sure thing... especially with the kind of shenanigans we're reading about in our newspapers every morning. As Bill Mann reminded us a few days ago, any appearance that the U.S. markets are corrupt must be fought with ruthlessness.

Rex Moore has made more money betting on Kent Desormeaux than any other jockey. He holds no companies mentioned in this column. The Motley Fool's disclosure policy is the most exciting two-minute read on the Web.