One of the most debated questions regarding stock market is that- Is stock market investing a zero-sum game? If someone makes money in the stock market, does it means that someone else must be losing money?
In this post, we are going to demystify this question and try to answer whether stock investing is a zero-sum game or not.
What is a Zero-Sum Game?
A Zero-sum game is a situation where one person’s profit is equivalent to the another’s a loss so that the net change in wealth is Zero.
A few popular examples of zero-sum game is Poker and gambling. In poker, the amount won by one player is equal to the combined losses of the other participants. Please note that there can be two or multiple participants in such games.
Moreover, Zero-sum games are contrary to win-win situations.
Is stock market investing a Zero-sum game?
When it comes to the stock market, the majority assumes that the market is a zero-sum game. After all, the money made by someone should come from a source and most believe that it costs from the other losing participant.
However, this is not true. Investing in stock can be mutually beneficial.
In the share market, trades are based on future expectations and because of the different risk tolerances of the participants.
Just because someone is selling their stock, doesn’t mean he is losing. He might have made substantial profits and willing to book profits. And similarly, if one sells, there’s no reason to think that the next investor can’t profit too. Here, both the parties can be winners.
Overall, a zero-sum game isn’t the right description of investing. As the company expands and becomes more valuable, the stock market can increase the wealth of both the participants & economy over time.
An important factor which is invariably ignored while studying the stock market as a zero-sum game is the dividends. As corporations generate profits from the sales, they share a portion of this profits with their shareholders as the dividends.
(There are even cases where the investors get back more money than the original invested amount just as dividends over time.)
If the market was a closed system with just buyers and sellers, somewhere it could be possibly considered as a zero-sum game. However, it is not a closed system as money is consistently pumped into it as dividends by the companies.
Quick Note: The exception to these scenarios are the companies that do not pay dividends.
Investing is not a zero-sum game and both the parties can be winners.
Here, the profit for the participants doesn’t come from the stake of losses by other participants, but from the value created by the company. If one sells a stock, there’s no reason to think that the next investor can’t profit too. As long as the business is performing well, the stock will keep on increasing value without anyone losing the money.
Overall, there doesn’t need to be one winner and other losers. Stock market provides an opportunity for a win-win situation for all.