There are many opinions about whether investing is a zero sum game. But what does what does “Zero Sum” mean?
Zero Sum Game refers to the concept that for every winner there is a loser, such that the net result is zero. For example, if person A gains $100.00, it implies that person B lost $100.00, so after any and all transactions, the overall net result is zero.
While some seem to espouse that investing is a zero sum game, I doubt it. Let’s look at it more closely.
Some transactions are zero sum
If you and a friend toss coins and each calls heads or tails to determine the winner, you are participating in a zero sum game. For each transaction there is one winner, and the other person is always he loser.
Why investing can be a no-winner game
While those who maintain that stock market investing is a zero sum game, in actuality, it can be worse than that. Namely, it could be a loser’s game. Why? Transaction costs, which include taxes. As in the old saying, “The House Always Wins.” Every investor who thinks he is a winner must gain more than his transaction costs, taking into consideration both on the buy side and the sell side.
So if an investor calculates that he has a gain, but the gain is smaller than the total of his transaction costs, then he has a loss. In fact, both the buyer and seller could think they have come out ahead of the other but both could have “lost” as a result of transaction costs.
But zero sum ignore gains in value, invention, efficiency, productivity and “growth.”
The idea that investing is a zero sum game ignores all changes in the economy. A single new invention or change in productivity increases value. The “loser” in such changes are those in the side of the economy that is replaced by the new. But often (or at least, sometimes) the overall gains in the new far outweigh the loss to the old. If it all were a zero sum game, no invention or change in productivity would effect any change in economic value.
Prices of securities are set by supply and demand, or so we are told. But sometimes, at least, the law of supply and demand is a lie.
Is Trading (i.e., speculating) is a Zero Sum Game?
In the arena of speculating, also known as trading, it seems to be obvious this is a zero sum game. Based on the rise and fall of prices, timing is what determines whether one has won or lost. Today $100.00 is a too-high of a price for a certain security, so the buyer is considered a loser, the seller being the winner. Next month, $100.00 is a bargain, so then the buyer is considered a winner, and the seller is a loser.
The usually not-zero-sum game
Long term dividend investors, who generally ignore prices and focus on dividends, do not need to be losers in investing. If a company cuts or eliminates dividends, goes bankrupt, or otherwise fails, we will have losers. That situation can be ameliorated by holding shares in multiple companies, so if one cuts or eliminates dividends, one’s core income is not decimated.
On the other had, the definition of “winners” and “losers” in the domain of investing is determined by what one is measuring. If dividend investors measure their progress by the dividends they are receiving, the general zero sum criteria of those who focus on trading does not apply.
This brings us to the understanding that for each person their own personal criteria will determine the measure of their own gain and loss.
Physics
It has been postulated as a law. The law of conservation of energy indicates that “energy can neither be created nor destroyed; rather, it can only be transformed or transferred from one form to another.”
Such a view demonstrates a zero sum game. The state of energy can change form, but according to this law, the sum total of all energies is constant. Fortunately, the law of conservation of energy does not apply to investing, or to human behavior.
Harvesting and Growth
If a farmer grows crops and sells them, and thereby gets money he didn’t have before, we could say he converted the energy produced by his planting and harvesting into goods which he sold, so perhaps in energy terms things just changed form. But from a financial point of view, his investment in his farm, and his fields has hopefully likely produced more income than he expended. Thereby, his wealth increased not only relatively, but in actual terms.
So too a person who sells a painting, or performs at a concert, or produces anything sold. If their investment in time and money is less than what it is sold for, then the seller’s financial well-being has increased. Has the buyer decreased their wealth by buying what was for sale? Maybe, and maybe not. If the product produced either increases in value or allows the buyer to increase their own income or quality of life, then the buyer of the original item has not had a decrease in wealth by purchasing the item; in fact their wealth increased by buying the item.
The End
Therefore, in the end, I am stating my viewpoint that investing is not necessarily a zero-sum game.
What do you think? Is investing a zero-sum game? Send your comments using the Contact page.
The illustrations of Pomegranate, Guava, and Gooseberry are from “Nouveau dictionnaire encyclopédique universel illustré répertoire des connaissances humaines”, Paris, 1885.
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