Let’s be clear: if you think Powerball is an investment you are either seriously misinformed or actively delusional. Lay very still, stay away from convenience stores, and seek immediate medical attention.
So if Powerball is not an investment, what is it? It’s a form of entertainment based on human fascination with random outcomes that lavish the winners with great riches, yet seem to cost the losers very little.
Great investors and great poker players recognize that life is much more random than any of us want to believe. You can accept this fact and do the best you can with it, or you can resist it and let it pull you down like a swimmer struggling against an overpowering current.
Random outcomes have the power to stir chemical reactions in the brain that make us excited and from time to time do things that seem irrational. We tend to get more excited about wildly unlikely but incredible outcomes, and conversely we worry more about highly unlikely but devastating risks. This explains why people at the ocean are more worried about shark attacks than they are about skin cancer.
This leads me to a short analysis of the great Powerball mania gripping America this week. A
$1.3 $1.4 billion jackpot awaits a lucky ticket holder and it’s reasonable to believe that at least 500 million tickets will be sold. Something we know for certain is that someone will win the jackpot eventually. Jack Kent Cooke, the late former owner of Washington’s NFL team used to like to describe things like this as “inevitable as the sun rising, if not as imminent.”
Poker is a game of decisions made on the basis of incomplete information and uncertain outcomes. In Texas Hold’em, the most powerful starting hand is two aces. Against any random hand, pocket aces is a 78-90% favorite at the start of the hand. This means that the expected value on playing the hand is very high: you should play it aggressively and be willing to risk substantial value on it. Good players also know that pocket aces get beat all the time (10-22% possibility in our above example). Even with the potential loss, pocket aces have a positive expected value in poker.
Yoda might say that Powerball is a game of only one decision: play, or do not. Because we know that the amount of the jackpot is less than the amount spent on tickets, each ticket purchased represents some tiny fractional share of this loss. Thus purchasing a ticket has a negative expected value. You expect to lose money every time you make the decision to buy a Powerball ticket. When you decide to purchase more tickets, you decide you expect to lose more money.
Note that I did not say this was a bad decision, I only said it was a decision with a negative expected value. Life is so much more than a series of binary decisions judged merely by financial outcomes. If I go to a Washington Nationals game I spend more money than if I decided to watch it on TV in my home. However, several times per year I enjoy seeing the game at the ballpark with my friends. The financial outcome of the decision is negative, but everything else is a plus. If I could afford to do that a few times a year, why wouldn’t I?
Whether the experience and entertainment of playing Powerball is worth the negative expected value is a decision each of us makes for ourself. I am in the financial advice business, not the judgment business.
The IRS Doesn’t Call
Let’s be clear: if you think Powerball is an investment you are either...