Stock Market Gambling Puzzle

[7Wannabe5]

Okay, let's say you have a wealthy eccentric great-aunt (or something like that) and she has oodles of money very conservatively invested but she decides that she wants to take some serious risks with a relatively small (for her) amount of money that she has stuck in an IRA with a big brokerage firm (so you are limited to investment choices available in this venue.) However, she is too lazy to want to think about it very much and she also wants to make you a gift. So, she offers you the following proposition. She will give you $2000 to invest for yourself if you will manage her $40,000 account. The investments/trades you make with your $2000 for yourself have to mirror the investments/trades you make with her $40,000. There is no downside for you on any losses in the $40,000 account. You can only lose money in your own $2000 account. In addition to the $2000 you start with, at the end of 6 months you will also get half the profits realized in the larger account. What would you do?

[1taskaday]

"Wealthy eccentric great-aunt",ha,ha,ha, about what age would she be??,should n't you just try to encourage her to leave the whole 42,000 in a will to you????

[George the original one]

You get $2000 if you do absolutely nothing, so I would not try to overthink this.

[trfie]

Easy, just put 100% into equities, well-diversified in terms of regions/countries/industries/sectors/size of companies/investment style. You've stated you want to be risky and equities have the greatest long-term performance. By diversifying into different countries you are limiting downside risk and lowering the overall volatility of the portfolio.

[George the original one]

"equities have the greatest long-term performance"... remember that 6 mo is not long term.

[Tyler9000]

Only six months? Maybe buy a few T-bills. Everything else truly is a gamble.

The game feels like a financial Kobayashi Maru. If you do nothing, she'll be upset you didn't try. If you lose too much, I'm not sure what gain will come of the exercise. Perhaps the worst outcome would be to get lucky and make a lot of money and set her expectations that this is the way investing is supposed to work.

[Dragline]

Only six months? Maybe buy a few T-bills. Everything else truly is a gamble.

The game feels like a financial Kobayashi Maru. If you do nothing, she'll be upset you didn't try. If you lose too much, I'm not sure what gain will come of the exercise. Perhaps the worst outcome would be to get lucky and make a lot of money and set her expectations that this is the way investing is supposed to work.

Yes, it seems to have more to do with your relationship with your benefactor than with the money -- as in, what do you want her to think of you in the end? That you are a competent manager so that maybe she would give you more to manage later or just love you more? Or a wild gambler?

The other thing it has to do with is your personal situation. If that $2000 is a lot to you (or a bit more), you are less likely to take risks.

Assuming I didn't care what she thought in the end and that I don't need the money, I'd probably take some big risk in futures or options just for fun. Not sure what in - maybe some beaten down energy sector assets. GO BIG OR GO HOME! If the IRA/brokerage did not allow trading in those, I'd go for some leveraged ETF.

[Tyler9000]

If she's truly looking for risk in life and not afraid of big losses, my most outside-the-box idea is to simply withdraw all of the money (paying the taxes and early withdrawal penalty). Then take her on a trip to Vegas. High roll for a weekend, gamble frivolously, and live it up. Or maybe just sit at the nickel slots together and tell jokes while enjoying free drinks. At the end of the weekend, you take home your pre-arranged share and nobody will be under any illusions that the winnings were anything other than good fortune. Even if you lose it all, you at least had a memorable experience with a loved one.

It's not the most returns-optimized idea, for sure. But perhaps the proposal is really more about trust and the gift than about maximizing returns.

[trfie]

Based on the scenario given, it doesn't sound like there is any need to do anything with the money, so I am assuming that this is a long-term portfolio and that there is just a possible bonus at the end of 6 months. But more details are needed to clarify the scenario and the expectations.

[JohnnyH]

Why treat $200 differently than $200,000? I would just roll it into my standard diversification strategy.

If it's a Roth, I would "swing for the fences" a bit (most volatile in portfolio) but that's about it.

[GandK]

VTSAX

[OTCW]

Maybe something really volotile? Energy stock(s), gold, hog futures? I guess you are limited to what is in the brokerage's offerings or I would suggest a roulette wheel red or black bet(s).

Lots of upside and little downside for you. Worst case is you lose the whole $2k (which wasn't your money to begin with). You eccentric aunt doesn't need the 40k it seems. Given those conditions, I can't think of a better time to swing for the fences.

The whole thing is kind of similar sounding to the parable of the talents by the way.

[7Wannabe5]

1Taskaday said: "Wealthy eccentric great-aunt",ha,ha,ha, about what age would she be??,should n't you just try to encourage her to leave the whole 42,000 in a will to you????

She has left you property worth more than that in her will but since you are naturally more of the temperament of Diogenes than Aristippus (originally encountered this in the "Tightwad Gazette." )...

“The philosopher Diogenes was eating bread and lentils for supper. He was seen by the philosopher Aristippus, who lived comfortably by flattering the king. Said Aristippus, 'If you would learn to be subservient to the king you would not have to live on lentils.'

Said Diogenes, 'Learn to live on lentils and you will not have to be subservient to the king".”

...your Great-Aunt, who is intelligent and in possession of an intermittently jolly/irascible, domineering temperament, is aware that you are unlikely to alter your behavior one iota to profit by money subject to her whim even though this is likely not completely in alignment with your own self-aware self-care or rational self-interest. However, she is also aware of the fact that to the extent that you are indeed weaker than Diogenes it is in the realm of "candy and circuses" rather than "meat and central heating." Therefore, one of her motivations for making this offer might just be as an attempt to "keep you amused" so you don't do something "worse" like start designing a sunken garden for her backyard. Let's further assume that the reason why your Great-Aunt is willing to go to some trouble or expense to "keep you amused" is that she finds you half attractive/amusing and half useful to have around. Like a pet monkey that is a great cook or an El Camino and she believes that it is likely that you will "wander off" one way or another if you are bored.

Anyways, for the purposes of this puzzle, let's assume that you and your Great-Aunt are both intelligent and likely to act in your own self-interest inclusive of the warm, glow of altruism and avoidance of feelings of guilt to the best of your abilities and current knowledge. It should also be assumed that the smaller investment account that belongs to you can be cashed out at any time after the 6 month period but the large account belonging to your Great-Aunt will continue to be stuck-because-IRA for many years. Let's also assume that it is your intention to remain in relationship with your Great-Aunt well beyond the 6 month period because you believe that human temperament is like the weather and you also perhaps semi-irrationally pride yourself on exhibiting behavior in alignment with the philosophy:

There's no such thing as bad weather, only unsuitable clothing. ~Alfred Wainwright

so you choose to love (verb) your Great-Aunt.

OTOH, if we assume that you are a bandit and it is the case that you do not give a dang about your relationship with your Great-Aunt and this is purely a puzzle about profit, then it seems to me that the answer to the puzzle would have to do with high volatility but I am too ignorant of the stock market to know the risk/reward ratios and I don't even know where to start reading. IOW, for example, if there was a readily available investment in equities that was 2/3 likely to wipe you out but 1/3 likely to double your return in 6 months then a bandit should make that investment/bet but somebody who was equally and jointly concerned about Great-Aunt's wouldn't. Anyways, even though I am not a bandit, I want to know the bandit's answer to the puzzle.

[Sclass]

Why treat $200 differently than $200,000? I would just roll it into my standard diversification strategy.

If it's a Roth, I would "swing for the fences" a bit (most volatile in portfolio) but that's about it.

I just asked a financial adviser this question. I do due diligence for a friend who uses a financial services company for HNWIs. So it went something like, you require XXXX dollars to open, what happens when we draw the account down below that number?

His answer, nothing. They will still manage the money but the commission load gets higher as you get to a lower balance. How you invest $2K is a little different than investing $40k. It isn't exactly scalable unless you want to put the whole thing into one or two stocks.

[theanimal]

Would a bandit use leverage to try to maximize the return? Maybe something like George the original one's leveraged income experiment?

[7Wannabe5]

Thanks for all your help! I was making the problem more complicated than necessary. I figured it out : )

[Scrubby]

50% of the profits is a huge incentive for taking unreasonably high risk. You can only lose $2000, but if you get 10% profit you will get more than twice as much money ($4200). If you can double the money you will have $24000 at the end, or 12 times as much as the $2000 you risk losing.

[fiby41]

My dear great aunt wouldn't stay wealthy for long if she remains this eccentric.

[Toska2]

What I would do with $2000 would not mirror $40,000.

Insulation and energy efficient furnace for $2000.

$40,000 for six months? CDs or pre-pay mortgage.