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One of the biggest misconceptions is that the stock market is a zero sum game. Its absolutely not. One person can make money without another person losing money

One of the biggest misconceptions is that the stock market is a zero sum game. Its absolutely not. One person can make money without another person losing money. Is that always the case? No. But that doesn't make it a zero sum game. If I buy a few shares from someone, I could be buying them from someone who is up on that investment and wants to cash in on their profit. If that stock continues to do well, everyone wins. I make money, the person I bought the shares from makes money. Who cares how much the other person made, I'm focused on myself. If someone does a good job, and opens their expertise to the public - like Cathie Woods and her ETFs - even more people can benefit. No one is hurt by her success. Of course people lose money, but that's not always and only because someone else is then making money from your loss. Everyone knows nearly every hedgefund does worse in the long run. Maybe they have 2-7 incredible years. Years 8 - 12 though aren't likely to go so well and they'll end up closing up shop. Only the top 20-50 hedgefunds likely consistently outperform a market index fund. The other few hundred are running on luck or just doing poorly anyway. Despite the issues of insider trading in this article, individuals are still able to do remarkably well by buying VTSAX (or whatever index/mutual/etf fund you like best) consistently over a long period of time.

theknocker 5y ago
Almost everything in this post is either irrelevant or wrong. Do you actually know anything about the stock market or are you just repeating things you saw on Reddit?
fairity 5y ago
> One of the biggest misconceptions is that the stock market is a zero sum game. Its absolutely not. No, it's by definition a zero sum game. Fundamentally, owning shares in a company grants you rights to a fraction of all future company earnings. For any given stock transaction: - there's an agreed upon price, $X - there's a true value, $Y, which equates to the net present value of all future company earnings that the transacted shares give you access to - if $X > $Y, the buyer is the loser in the transaction and the seller is the winner - if $Y > $x, the buyer is the winner; the seller the loser You may not know what $Y is in any given transaction, but the value certainly exists. And, therefore, a winner and loser exists in every transaction (even if you don't know who it is). Furthermore, the "amount" won in a transaction is always equal to the "amount" lost by the counter party. This value exchange is abs($Y-$x). If all individual transactions are zero sum, it should be obvious that the sum of all individual transactions are zero sum. As you call out in your examples, it's possible for individual (and groups of) participants to come out ahead. But, this is certainly at the expense of other participants in the transaction chain.
- msdrigg 5y ago
  I think the breakdown in this argument is the fact that $Y is not the same for everyone. > $Y is the net present value of all future earnings. First of all, ‘future earnings’ is a time-dependent probability distribution and this means that the outcome is not certain at the time of transaction. For example, we can imagine that a particular stock has a 50% chance of tripling in value after 10 years and a 50% chance of going bankrupt. What is the current value of this stock $Y. Even in this contrived case it seems like different people could value this stock differently today even knowing the probability exactly. Some investors need a reliable fixed income from their investments but don’t care much about growth (for example some retirees). They might not like this risk. Other investors want to increase their capital and are willing to risk volatility and losses. There are some cases where there is a clear zero sum game (pump and dump schemes for example), but I don’t think this is true for most transactions.
  - fairity 5y ago
    Yea, I guess the fact that parties value risk differently, gives a little bit of room for positive sum transactions. But, given limited supply (of company shares) and large transaction volume in equity markets, this effect should be muted. That is, shortly after an IPO, I could see there being truly positive sum transactions as more risk-seeking investors enter the market. But, eventually, risk-aversion between buyer and seller should reach equilibrium and all future transactions will be largely zero-sum.
- refurb 5y ago
  Incorrect. Your definition of “winner” is someone who leaves money on the table (unknown to anyone at the time, based on a future value). By that definition there is no market where they are two winners. But clearly the economy grows and two parties in a transaction can walk away with more than the invested. “Winner” is someone who made money. You can easily have two “winners” by that definition.
  - fairity 5y ago
    > Your definition of “winner” is someone who leaves money on the table No, my definition of winner (in a transaction) is someone who gives less than what they receive. > By that definition there is no market where they are two winners. No, transactions can be positive sum if the goods & services being traded are valued differently by the buyer and seller. For example, if it costs me $2 for materials & $8 in labor to knit sweaters, I value each sweater at $10. Someone else who is using the sweater to stay warm, may value that sweater at $30. If we transact at $20, that's a positive sum transaction. However, equity markets are different because the "product" that's being traded (NPV of future company cash flows) isn't valued differently by various parties. That is, if the NPV of future company cash flows is $100, there's no party that will pay more than $100 for it. This invariance in valuation is the feature that gives rise to the zero sum nature of equity markets.
greenhatman 5y ago
What you're describing is still zero sum. The share price only went up because there is a bigger fool willing to pay more. New investors are funding old investors' gains. The only part that's not zero sum are the dividends that are paid out. It's kind of all a big Ponzi scheme, just with some dividends thrown in. Well, not counting only paid out dividends, but also dividends that are speculated to be paid out some time in the future.
- wilkommen 5y ago
  Yeah this is a perfect description. I find that it's really rare to find someone who sees it this way. The stock market is basically one big ponzi scheme that we're all bought into, which has two consequences: 1. We're never going to let it fail no matter what 2. Most of us are going to be unwilling to see that it's a ponzi scheme, leading to a lot of "religious thinking" about the whole thing justifying and attempting to rationalize and legitimize the way the "system" works. I would really like to find a respected and articulate authority who is has written a book or something about this, cause it feels weird to me seeing the whole system this way with so few people I've ever met agreeing with me, and none of them well known people.
  - JohnPrine 5y ago
    When you're confused that very few knowledgable people agree with your model, it's usually an indicator that your model could be wrong.
    - wilkommen 5y ago
      Sometimes, yeah!
- defaultprimate 5y ago
  No it isn't, the company's underlying assets and performance can increase the value of the stock by itself.
  - 5y ago
AvAn12 5y ago
I feel this argument is a bit of a red herring. It's sort of like saying, it's ok to drive through red lights so long as I don't hit any pedestrians - - nobody gets hurt, so what's the problem? One purpose of insider trading rules is to ensure a sense of equity. Being an officer in a public corporation, investment banker, accountant, or anyone else privy to material non-public information is a position of privilege and trust. It's not fair to everyone else if folks with insider information can freely cash in on that information at will. To further see that this is so, consider if there are no insider trading rules - - - in this case, why would anyone pursue a legitimate career as a developer or doctor or lawyer when there is so much more money to be made from exploiting insider information in the marketplace? Clearly that would not be a good kind of society to live in.
bitshiftfaced 5y ago
It's a zero sum game with extra steps. The "sum" varies over time. If both players come out ahead, then one always pays an opportunity cost equal to the amount they would've gained had they stayed in the market longer. In other words, it's win/lose, not win/win once you extend the timeline and compare what it would look like had the trade not had happened.
bsd44 5y ago
"One of the biggest misconceptions is that the stock market is a zero sum game. Its absolutely not." So when you make money in the stock market, where does the money come from?
- jfengel 5y ago
  From the company's profits. When you buy a company, you own a piece of it. The price of a stock theoretically reflects how much profit you expect the company to earn. In a simple scenario, the company keeps all of its profits in a bank somewhere. The company's value then goes up because you own a share of that money. You'd expect the price to go up to reflect that increased value. You would sell it at a higher price, and it would be a positive-sum game. In reality it's more complicated. Most companies would re-invest that money so that they'll make even more money in the future. The stock price will reflect how well you expect the company to grow and earn more. It's still a positive-sum game, just with more uncertainty. It's even more complicated than that, for a lot of reasons. But at the core, it's a positive-sum game, not a zero-sum game. (At least until the point where people are throwing so much money at the stock market that the prices have nothing to do with a reasonable assessment of uncertainty. And there's a decent chance that this is true today. But long term, such irrational exuberance tends to crash, and over enough time the two mostly cancel out.)
  - deleted 5y ago
    [deleted]
  - bsd44 5y ago
    Yes you are right, I confused shares with other financial instruments.
- bern4444 5y ago
  The same place that money goes when you lose money in the market :) [0] More seriously I think the key lots of people miss is that when you buy shares of a company, you don't have dollars anymore. You have shares. Shares are a currency controlled by the company that can issue them (just as the govt can issue dollars). Shares are assets just like a dollar. Also like a dollar, those assets can appreciate or depreciate in value over time. As the company does well, more people will want to invest. People want to invest in a successful company since it means the company will have more profits to give out and more money to continue growing and succeeding to eventually distribute. Most of the time companies go down this second path. As more people invest, fewer shares are available. Demand has gone up, and supply has gone down. Each share is now worth more. But you still have the same number of shares. The reverse is equally true. If a public company does poorly, people will begin to sell. As people sell, demand goes down, supply goes up. Each share is worth less than what it was. But you still have the same number of shares. Their purchasing power has just decreased just as the dollar's purchasing power decreases with inflation. [0]https://www.youtube.com/watch?v=NmFo-LKHGY0 https://www.youtube.com/watch?v=NmFo-LKHGY0 - poof its gone.
xg15 5y ago
> One of the biggest misconceptions is that the stock market is a zero sum game. Its absolutely not. One person can make money without another person losing money. Last time I checked, stock exchanges did not have licenses to print money. > If that stock continues to do well, everyone wins. I make money, the person I bought the shares from makes money. No, the person you bought the stock from made money before the stock went up. You might make money if you decide to sell before the stock goes down again.

theknocker 5y ago

Almost everything in this post is either irrelevant or wrong. Do you actually know anything about the stock market or are you just repeating things you saw on Reddit?

fairity 5y ago

> One of the biggest misconceptions is that the stock market is a zero sum game. Its absolutely not. No, it's by definition a zero sum game. Fundamentally, owning shares in a company grants you rights to a fraction of all future company earnings. For any given stock transaction: - there's an agreed upon price, $X - there's a true value, $Y, which equates to the net present value of all future company earnings that the transacted shares give you access to - if $X > $Y, the buyer is the loser in the transaction and the seller is the winner - if $Y > $x, the buyer is the winner; the seller the loser You may not know what $Y is in any given transaction, but the value certainly exists. And, therefore, a winner and loser exists in every transaction (even if you don't know who it is). Furthermore, the "amount" won in a transaction is always equal to the "amount" lost by the counter party. This value exchange is abs($Y-$x). If all individual transactions are zero sum, it should be obvious that the sum of all individual transactions are zero sum. As you call out in your examples, it's possible for individual (and groups of) participants to come out ahead. But, this is certainly at the expense of other participants in the transaction chain.

msdrigg 5y ago
I think the breakdown in this argument is the fact that $Y is not the same for everyone. > $Y is the net present value of all future earnings. First of all, ‘future earnings’ is a time-dependent probability distribution and this means that the outcome is not certain at the time of transaction. For example, we can imagine that a particular stock has a 50% chance of tripling in value after 10 years and a 50% chance of going bankrupt. What is the current value of this stock $Y. Even in this contrived case it seems like different people could value this stock differently today even knowing the probability exactly. Some investors need a reliable fixed income from their investments but don’t care much about growth (for example some retirees). They might not like this risk. Other investors want to increase their capital and are willing to risk volatility and losses. There are some cases where there is a clear zero sum game (pump and dump schemes for example), but I don’t think this is true for most transactions.
- fairity 5y ago
  Yea, I guess the fact that parties value risk differently, gives a little bit of room for positive sum transactions. But, given limited supply (of company shares) and large transaction volume in equity markets, this effect should be muted. That is, shortly after an IPO, I could see there being truly positive sum transactions as more risk-seeking investors enter the market. But, eventually, risk-aversion between buyer and seller should reach equilibrium and all future transactions will be largely zero-sum.
refurb 5y ago
Incorrect. Your definition of “winner” is someone who leaves money on the table (unknown to anyone at the time, based on a future value). By that definition there is no market where they are two winners. But clearly the economy grows and two parties in a transaction can walk away with more than the invested. “Winner” is someone who made money. You can easily have two “winners” by that definition.
- fairity 5y ago
  > Your definition of “winner” is someone who leaves money on the table No, my definition of winner (in a transaction) is someone who gives less than what they receive. > By that definition there is no market where they are two winners. No, transactions can be positive sum if the goods & services being traded are valued differently by the buyer and seller. For example, if it costs me $2 for materials & $8 in labor to knit sweaters, I value each sweater at $10. Someone else who is using the sweater to stay warm, may value that sweater at $30. If we transact at $20, that's a positive sum transaction. However, equity markets are different because the "product" that's being traded (NPV of future company cash flows) isn't valued differently by various parties. That is, if the NPV of future company cash flows is $100, there's no party that will pay more than $100 for it. This invariance in valuation is the feature that gives rise to the zero sum nature of equity markets.

greenhatman 5y ago

What you're describing is still zero sum. The share price only went up because there is a bigger fool willing to pay more. New investors are funding old investors' gains. The only part that's not zero sum are the dividends that are paid out. It's kind of all a big Ponzi scheme, just with some dividends thrown in. Well, not counting only paid out dividends, but also dividends that are speculated to be paid out some time in the future.

wilkommen 5y ago
Yeah this is a perfect description. I find that it's really rare to find someone who sees it this way. The stock market is basically one big ponzi scheme that we're all bought into, which has two consequences: 1. We're never going to let it fail no matter what 2. Most of us are going to be unwilling to see that it's a ponzi scheme, leading to a lot of "religious thinking" about the whole thing justifying and attempting to rationalize and legitimize the way the "system" works. I would really like to find a respected and articulate authority who is has written a book or something about this, cause it feels weird to me seeing the whole system this way with so few people I've ever met agreeing with me, and none of them well known people.
- JohnPrine 5y ago
  When you're confused that very few knowledgable people agree with your model, it's usually an indicator that your model could be wrong.
  - wilkommen 5y ago
    Sometimes, yeah!
defaultprimate 5y ago
No it isn't, the company's underlying assets and performance can increase the value of the stock by itself.
- 5y ago

AvAn12 5y ago

I feel this argument is a bit of a red herring. It's sort of like saying, it's ok to drive through red lights so long as I don't hit any pedestrians - - nobody gets hurt, so what's the problem? One purpose of insider trading rules is to ensure a sense of equity. Being an officer in a public corporation, investment banker, accountant, or anyone else privy to material non-public information is a position of privilege and trust. It's not fair to everyone else if folks with insider information can freely cash in on that information at will. To further see that this is so, consider if there are no insider trading rules - - - in this case, why would anyone pursue a legitimate career as a developer or doctor or lawyer when there is so much more money to be made from exploiting insider information in the marketplace? Clearly that would not be a good kind of society to live in.

bitshiftfaced 5y ago

It's a zero sum game with extra steps. The "sum" varies over time. If both players come out ahead, then one always pays an opportunity cost equal to the amount they would've gained had they stayed in the market longer. In other words, it's win/lose, not win/win once you extend the timeline and compare what it would look like had the trade not had happened.

bsd44 5y ago

"One of the biggest misconceptions is that the stock market is a zero sum game. Its absolutely not." So when you make money in the stock market, where does the money come from?

jfengel 5y ago
From the company's profits. When you buy a company, you own a piece of it. The price of a stock theoretically reflects how much profit you expect the company to earn. In a simple scenario, the company keeps all of its profits in a bank somewhere. The company's value then goes up because you own a share of that money. You'd expect the price to go up to reflect that increased value. You would sell it at a higher price, and it would be a positive-sum game. In reality it's more complicated. Most companies would re-invest that money so that they'll make even more money in the future. The stock price will reflect how well you expect the company to grow and earn more. It's still a positive-sum game, just with more uncertainty. It's even more complicated than that, for a lot of reasons. But at the core, it's a positive-sum game, not a zero-sum game. (At least until the point where people are throwing so much money at the stock market that the prices have nothing to do with a reasonable assessment of uncertainty. And there's a decent chance that this is true today. But long term, such irrational exuberance tends to crash, and over enough time the two mostly cancel out.)
- deleted 5y ago
  [deleted]
- bsd44 5y ago
  Yes you are right, I confused shares with other financial instruments.
bern4444 5y ago
The same place that money goes when you lose money in the market :) [0] More seriously I think the key lots of people miss is that when you buy shares of a company, you don't have dollars anymore. You have shares. Shares are a currency controlled by the company that can issue them (just as the govt can issue dollars). Shares are assets just like a dollar. Also like a dollar, those assets can appreciate or depreciate in value over time. As the company does well, more people will want to invest. People want to invest in a successful company since it means the company will have more profits to give out and more money to continue growing and succeeding to eventually distribute. Most of the time companies go down this second path. As more people invest, fewer shares are available. Demand has gone up, and supply has gone down. Each share is now worth more. But you still have the same number of shares. The reverse is equally true. If a public company does poorly, people will begin to sell. As people sell, demand goes down, supply goes up. Each share is worth less than what it was. But you still have the same number of shares. Their purchasing power has just decreased just as the dollar's purchasing power decreases with inflation. [0]https://www.youtube.com/watch?v=NmFo-LKHGY0 https://www.youtube.com/watch?v=NmFo-LKHGY0 - poof its gone.

xg15 5y ago

> One of the biggest misconceptions is that the stock market is a zero sum game. Its absolutely not. One person can make money without another person losing money. Last time I checked, stock exchanges did not have licenses to print money. > If that stock continues to do well, everyone wins. I make money, the person I bought the shares from makes money. No, the person you bought the stock from made money before the stock went up. You might make money if you decide to sell before the stock goes down again.