Book Review 9: A Man for All Markets

Welcome back! This time, we’re taking a look at A Man for All Markets, written by Ed Thorpe. This man. Ed Thorpe. This man…

  • Invented card counting
  • Built a machine to accurately (and profitably) predict roulette
  • Pioneered quantitative finance
  • Made millions through ^
  • Taught college level math

Insane. I’ve never been so impressed by someone that I’d never heard of. Heck – I worked at Goldman Sachs, and I sold equity options. I know what Black-Scholes is, the options pricing formula. It’s absolutely fundamental to Wall Street analysis. Turns out, Mr. Thorpe invented the same model, earlier than they did, but kept it private and used it to make millions by *actually* trading the market. See: Beat The Market. That seems smarter than publishing it to me 😏. Merton Black and Mr. Scholes did win a Nobel (consolation) Prize though.

He also created the modern point system of card counting, popularized in his book: Beat the Dealer. Sure, it’s not as profitable, but equally impressive from a mathematics standpoint imo.

Alright! Let’s dissect Mr. Ed Thorpe a little bit. How can one human do SO much, and be first to do it? Well, there’s got to be multiple aspects. First off, let’s assume he’s a bit of a mathematical genius. Since he won a bunch of science awards growing up, became a professor of math, set state testing records, he’s earned it. I hear some of you grumbling out there already “I’m not a genius…”, you’re right! You’re not. So accept it and move on to what us non-geniuses can learn from him: methods, actions, and frameworks.

#1: Understand the rules of the game you are playing

When Thorpe started card counting in Las Vegas, he made a decent profit. As casinos unraveled his tactics, they took counter measures. For example, they shuffled decks more frequently to thwart the ‘count’ – Thorpe’s measure of his statistical advantage. It’s sort of like hitting the reset button on the blackjack game, and restoring the Casino’s natural advantage. Alternatively, casinos would simply ask him to leave when they identified him as a card counter. Anytime they wanted, they could boot him.

Some might look at this and think it’s unfair. Tough. Thorpe recognized these were legal moves. Thus, he countered. He used disguises to make himself hard to spot. He created blackjack teams (as popularized by the movie 21) that made it harder to spot card counters. He also correctly calculated that over-shuffling meant casinos could play fewer hands per day, and many reverted to normal shuffling cadences because they were making less money from non-card counters!

You have three choices in life: whine about the rules, quit, or play the game as best you can. Thorpe used his ingenuity and persistence to play, and win.

On Wall Street, Thorpe was one of the first people to start a market-neutral fund, designed to make money in all conditions. The downside of such a fund is that it may make less money when the market is hot, since it hedges its positions. It should also make money when the market is down, since it has those hedges. Thorpe’s fund performed exactly as expected, and since he was so early, very well – beating the market even in good times. However, he never tried to extend himself or borrow money to increase his leverage (increased upside, increased downside). When other funds popped up claiming to do what he did, they attracted big investors and got paid big fees. But they lost sight of their market neutrality, and when the market struggled, lost billions and cost the taxpayers a bailout. Long Term Capital Management is the most spectacular example.

Thorpe believed in integrity in the rules. He’s quite critical of people who use politics to their business advantage, changing the rules to favor themselves. The principals of LTCM and other big banks have lost Americans billions, but nothing themselves personally. I agree with him that doesn’t seem right.

He knows the rules so well, he can also spot cheaters. In fact, he called Madoff a fraud years before he was caught. He knew how to value options, and he saw profit abnormalities from Madoff’s portfolio way outside statistical bounds. Upon investigation, he found tangible evidence of fraud. Problem was, no one listened to him. The magically consistent returns from Madoff were too juicy for investment managers to ignore, they didn’t want to believe it. Which leads us to rule #2…

#2 Find out for yourself – break big problems into small problems

He always, always does things for himself. I’m not sure that challenging everything is necessary, but most things, yes. For example, I’m writing this essay because I’m in a program to be a great marketer, salesman, and engineer. Who says we can’t be all 3?

In the case of Madoff, Thorpe was astounded at the consistency of his returns. After analyzing the strategy, he placed a few calls to brokers and exchanges to verify trades that matched Bernie’s size had been executed. He quickly found out none had gone through. It’s mind boggling that it took Thorpe a mere few days to uncover tangible evidence of fraud, and the SEC >20 years. Makes you ask – what are those idiots doing? Not getting their hands dirty.

As it relates to card counting, Thorpe’s ingenuity is impressive. Many academic papers had concluded there was no way to beat the casino in blackjack, they had odds that favored them overall. However, blackjack is unique in that there’s always a set of discrete choices that are optimal. For each hand that a player/casino has, there’s an optimal choice – hit, split, or stay. So a method can be established for optimal play, bets aside.

Problem was, even with optimal player play, the casino still had an edge. Thorpe broke this problem down further, to ask – under what scenario would the player have an advantage? He was able to figure out that if he removed something like all four 5’s from the deck, the player odds went to even. Then if he removed all 4’s, the player had a tiny edge. Bam! A scenario where the player is better off. How then, to take advantage? By re-incorporating betting into the equation. If one could theoretically track 4’s and 5’s and low value cards, they could play small with bad odds, or not at all, and then place large bets when they had the advantage. That’s the essence of card counting.

It all stems from taking a problem – beating the casino – and breaking it down into components, and finding one scenario that can be exploited, then manifesting that scenario. Brilliant.

#3 Fame, shmame

How, I thought, how had I never heard of this guy? Well, he was clever enough to never be in the spotlight.

Yet, he changed finance. I mean, he is the grandfather of all high frequency trading, trading algos, and so on. But he isn’t seeking credit in this book. Doesn’t need a pat on the back.

He just goes to work, solves interesting problems, occasionally starts a hedge fund and makes millions, and then goes home happily to his awesome wife and normal kids. More than we can say for most successful businessmen.

Well done sir. It was a pleasure reading your book!

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