Playing poker can provide valuable lessons in how to make better financial decisions. In fact, you can learn how to make better decisions in general from poker and many other card games.
Financial decisions are different from many other types of decisions, because financial decisions involve a lot of uncertainty. Many people don’t learn how to make decisions under uncertainty. That is a major obstacle to making good financial decisions for many people.
Suppose you are thinking of buying a car, a television, or any other consumer good. The way to make that decision is to gather a lot of information, make a list of pros and cons of each choice, and decide which is best for you. There’s little, if any, uncertainty in these decisions. You mostly gather facts and compare them.
Often, people think the same approach is how to make financial decisions. They believe that by looking at history, consulting with advisors, and taking other actions they can gather all the necessary information and make the right decision.
Though you should take all those steps, you won’t reach anywhere near the same level of certainty you do when purchasing a consumer item. There are a lot of variables in the financial world, and there also are variables in your life that affect financial decisions. Whether a financial decision is a good one or a bad one often depends on what happens in the future. The future is uncertain.
As in poker, when analyzing financial decisions you need to learn how to make decisions under uncertainty.
As former professional poker player Annie Duke says in her book, Thinking in Bets: Making Smarter Decisions When You Don’t Have All the Facts, there always will be uncertainty in poker. While you can pay attention to the cards played, you can’t know which cards other players are holding, how they will bet and play with those cards and which cards will be in play next.MORE FOR YOUBillion-Dollar Dynasties: These Are The Richest Families In AmericaLaid Off? 10 Lessons I Learned From My Job SearchForbes Favorites 2020: The Year’s Best ForbesWomen Stories
To decide under uncertainty, whether in finance, poker or another area, you first have to estimate the probabilities of different events and scenarios. That means first having an open mind and considering the different scenarios that are likely to occur. Next, you need to make an estimate of which outcomes are more likely than others.
Then, balance potential losses against potential gains and take the actions that are likely to deliver the highest potential gain without taking too much risk of loss. You usually don’t want to make the choice that has the highest potential gain if it also has a reasonable probability of incurring a significant loss. Realize that no matter how carefully you analyze the situation, losses and mistakes always are possibilities. We can’t learn everything or predict the future.
That’s why it’s almost always a good idea to have some balance and diversification in your portfolio. While stocks have delivered the highest returns in the long term, most of us aren’t living in the long term, especially the closer we are to retirement. We must consider what could happen in the next five to 10 years and the potential consequences on our finances.
Most other financial decisions have similar uncertainty. Rarely is one outcome highly likely. Instead, there is a range of potential outcomes, with some more likely than others. That’s why financial decisions often require some balancing or hedging.
After you decide, it’s usually not a good idea to lock it away and forget about it. Instead, be ready to adapt and adjust when the potential risks and rewards, or your circumstances, change.