Know When to Fold 'Em
One of my hobbies is playing poker and I can do it for free online. When I visit a casino and play poker, I usually make money. However, when I started to play online with play money, I had tremendous difficulty making money. And that didn't make sense to me because I knew that most of the people I was playing against were terrible. Why couldn't I make money?
However, one day I read a poker book by a professional who said that he had the same experience in low-limit games in Las Vegas. He said that when he had a good hand, he typically had five or six bad players staying with him. One of them would typically make a very lucky draw and he would be beaten.
Once he figured out what was happening, however, he rarely lost again. And his secret was knowing when to fold 'em. In Texas Hold'em, every player is dealt two cards face down. These are your unique cards that you must use, although with five common cards that are dealt face up, to make the best five card poker hand. You typically bet your hand after you see your two "pocket cards;" after the fist three common cards (called the flop); and after the fourth and fifth cards respectively.
Bad players typically play most starting hands they are dealt, but if there are enough bad players, then one of them will get a good draw that will beat most people. So the solution to beating them is to only play the outstanding starting hands - the hands that will typically win the pot 30% of the time or better. That means that you must FOLD 80% of the hands you are dealt. You never play them and in most cases, it doesn't cost you anything not to play a bad hand.
One of the advantages we have as traders is that we do not have to trade. And it costs nothing to not trade. So the common solution is to only take a position in outstanding trades. And these are usually either trades that are moving strongly in your favor before you enter or trades that are so highly undervalued that you are getting an investment at a small fraction of what it is worth.
One of the highest starting hands in poker is an Ace-King of the same suit. In a ten person game, this starting hand will typically win 68.6% of the time. But it usually does require some help to win. Suppose you are dealt an Ace-King of hearts which you bet so you can see some more cards. However, the next three cards are a 3 of clubs, a jack of diamonds, and a 7 of spades. Those three cards didn't help you at all. You don't even have a pair in your hand and you only have two more cards to see. Now the odds don't look good that this will be one of the 68.6% of the hands that an Ace King of the same suit will win. You should fold that hand, especially if other people are betting heavily. And again, it won't cost you much money at this stage to fold - just the amount of your initial bet.
The same occurs when you invest in a stock. You buy the stock because it is going up. However, once you buy it, it starts to slowly go down. After several weeks, it's down about 5%. At this point it's like the bad poker hand - you should walk away from it. The odds, right now, don't seem to be in your favor.
Bad players will typically play bad hands to begin with and they'll stay with good hands that don't get supported as more cards are revealed. If you become more conservative with the odds, only playing the best hands, you'll probably win most of them and lose very little money.
One of the golden rules of trading is to cut your losses short and this means get out of trades that don't seem to be working in your favor. Next, week we'll talk about the opposite situation, when the poker hand or the trade starts to look really good.
Dr. Van K Tharp
Peak Performance Course for Investors and Traders
This home study course is Dr. Tharp's masterpiece. It's designed for all levels of investors and traders - beginners, advanced, unsuccessful traders seeking to improve their performance, and successful traders who want to be more successful.