The Zurich Axioms: The rules of risk and reward used by generations of Swiss bankers

by Gunther Max

To make any kind of gain in life – a gain of wealth, personal stature, whatever you define as “gain” – you must place some of your material and/or emotional capital at risk. You must make a commitment of money, time, love, something. That is the law of the universe. Except by blind chance, it cannot be circumvented. No creature on earth is excused from obedience to this pitiless law. To become a butterfly, a caterpillar must grow fat; and to grow fat, it must venture out where birds are. There are no appeals. It is the law.

“They don’t teach you the thing you need most of all”, he would say. “Speculation. How to take risks and win. A boy growing up in America without knowing how to speculate – why, that’s like being in a gold mine without a shovel!”

Worry is not a sickness but a sign of health. If you are not worried, you are not risking enough.

His book The Battle for Investment Survival may have been the most popular market-strategy handbook of all time.

any good Swiss speculator will tell you that if your main goal in life is to escape worry, you are going to stay poor.

Life ought to be an adventure, not a vegetation. An adventure may be defined as an episode in which you face some kind of jeopardy and try to overcome it. While facing the

jeopardy, your natural and healthy response is going to be a state of worry.

Worry is an integral part of life’s grandest enjoyments. Love affairs, for instance. If you are afraid to commit yourself and take personal risks, you will never fall in love. Your life may then be as calm as a tidal pool, but who wants it? Another example: sports. An athletic event is an episode in which athletes, and vicariously spectators, deliberately expose themselves to jeopardy – and do a powerful lot of worrying about it. It is a minor adventure for most of the spectators and a major one for the athletes. It is a situation of carefully created risk. We wouldn’t attend sports events and other contests if we didn’t get some basic satisfaction out of them. We need adventure. Perhaps we need tranquility at times too...

Adventure is what makes life worth living, and the way to have an adventure is to expose yourself to risk.

Frank Henry’s rule of thumb was that only half of one’s financial energies should be devoted to job income. The other half ought to go into investment and speculation.

For here is the cold truth. Unless you have a wealthy relative, the only way you are ever going to lift yourself above the great unrich – absolutely the only hope you have – is to take a risk.

You may think you’d rather be an investor than a speculator. Being an investor sounds safer. In truth, however, there is no difference whatever. As the plain-talking Gerald Loeb put it, “All investment is speculation. The only difference is that some people admit it and some don’t”.

There is no risk-free speculation, no matter how dignified it may sound.

All investment is speculation, as Loeb said. You put up your money and you take your chances. You’re a speculator whether you are betting on GM or anything else. You might as well admit it. There is no sense in trying to hoodwink yourself. You understand the world better when you come to it with your eyes wide open.

But consider this. If you bet $100 and double your-money, you’re still poor.

The only way to beat the system is to play for meaningful stakes. This doesn’t mean you should bet amounts whose loss would bankrupt you. You’ve got to pay the rent and feed the kids, after all. But it does mean you must get over the fear of being hurt.

If an amount is so small that its loss won’t make any significant difference, then it isn’t likely to bring you any significant gains either. The only way to win a big payoff from a small wager is to go for a long, long shot. You might buy a $1 lottery ticket and win a million, for instance. That is ...

In the normal course of speculative play, you must start out with a willingness to be hurt, if only slightly. Bet amounts...

Always play for meaningful stakes.

In the litany of conventional investment advice, having a ‘diversified portfolio’ is among the most revered of all financial goals. Only one thing tops it: having a diversified portfolio of investment-grade securities. If you’ve got that, you’ve got the world by the tail! Or so they like to tell you. The fact is that diversification, while reducing your risks, reduces by the same degree any hope you may have of getting rich.

Diversification has three major flaws: 1. It forces you to violate the precept of Minor Axiom I – that you should always play for meaningful stakes. If your entire starting capital is itself not very meaningful, diversifying is only going to make things worse. The more you diversify, the smaller your speculations get. Carry it to extremes and you can end with amounts that are really quite trivial.

By diversifying, you create a situation in which gains and losses are likely to cancel each other out. Leaving you exactly where you began – at Point Zero.

3. By diversifying, you become a juggler trying to keep too many balls in the air all at once.

But don’t diversify just for the sake of diversity. You then become like a contestant in a supermarket shopping contest, in which the object is to fill your basket fast. You go home with a lot of expensive junk you don’t really want. In speculation, you should put your money into ventures that genuinely attract you, and only those. Never buy something simply because you think you need it to round out a ‘diversified portfolio’.

As some say around Wall Street, “Put all your eggs in one basket, and then watch the basket”. This is one old financial bromide that stands scrutiny. Whoever first said it was obviously not a diversification fan. It is much easier to watch one or a few baskets than a dozen. When the fox comes around to steal your eggs, you can handle him without whirling around in circles.

what does the axiom advise you to do with your money? It says put your money at risk. Don’t be afraid of getting hurt a little. The degree of risk you will usually be dealing with is not hair-raisingly high. By being willing to face it, you give yourself the only realistic chance you have of rising above the great unrich. The price you pay for this glorious chance is a state of worry. But this worry, the First Axiom insists, is not the sickness modern psychology believes it to be. It is the hot and tart sauce of life. Once you get used to it, you enjoy it.

The Second Major Axiom: On Greed Always take your profit too soon.

What makes them do it is greed, and that is what the Second Axiom is about. If you can conquer greed, that one act of self-control will make you a better speculator than 99 percent of other men and women who are scrambling after wealth.

Greed, in the context of the Second Axiom, means excessive acquisitiveness: wanting more, more, always more. It means wanting more than you came in for or more than you have a right to expect. It means losing control of your desire.

“If they wanted less, they’d go home with more”, he would say. That was his own axiom on greed.

“Don’t stretch your luck”.

You should assume that any set or series of events producing a gain for you will be of short duration, and that your profit, therefore, won’t be extravagantly big.

Always bet on the short and modest. Don’t let greed get you. When you have a good profit, cash out and walk away.

Once in a while you will regret having walked away. The winning set will continue without you, and you will be left morosely counting all the money you didn’t make. In hindsight, your decision to quit will look wrong. This depressing experience happens to every speculator once in a while, and I won’t try to minimize it. It can make you want to cry. But cheer up. To match against the time or two when the decision to quit early turns out wrong, there will be a dozen or two dozen times when it turns out right. In the long run, you make more money when you control your greed.

It refers to the need to cash out before a set of winning events has reached its peak. Don’t ever try to squeeze the last possible dollar from a set. It seldom works. Don’t worry about the possibility that the set still has a long way to go – the possibility of regret. Don’t fear regret. Since you can’t see the peak, you must assume it is close rather than far. Take your profit and get out. It is like climbing a mountain on a black, foggy night. The visibility is zero. Up above you and ahead of you somewhere is the peak, and on the other side is a sheer drop to disaster. You want to climb as high as you can. Ideally, you would like to reach the peak and stop exactly there. But you know ‘ideally’ doesn’t happen often in real life, and you aren’t naive enough to think it is going to happen now. So the only sensible course is to stop climbing when you have reached what you consider a good height. Stop short of the peak. Stop too soon.

The fear is particularly common and particularly intense around the stock market. “Never check the price of a stock you’ve sold”, says one of Wall Street’s ancient teachings.

The fear of regret may be bad around Wall Street because the trading prices of stocks are quoted every business day. This is true of some other speculative media but not of others – not of real estate, for instance.

Stock speculators are always doing that and are always working themselves into frenzies over it. Such a frenzy can cloud one’s judgment to a hazardous degree.

Decide in advance what gain you want from a venture, and when you get it, get out

The purpose of Minor Axiom III is to help you answer the always difficult and often paralyzing question. What is enough?

Once in a great while, a stock market venture of yours might end when a company in which you’ve invested is absorbed by a bigger company and passes out of existence. But most of the time you will be required to call your own endings. This is very, very hard to do, so hard that most people fail to get the hang of it. (Most, indeed, fail even to grasp the necessity of it.) But it is a technique you must master. It is an essential part of a good speculator’s equipment.

An ending is a time when you withdraw, breathe a sigh of relief, and briefly relax.

You’ve bought a handful of Union Carbide stock, let’s say. Or you’ve invested in gold. Or you own a house. These are races that aren’t going to ‘finish’ in any ordinary future that you can foresee. Such a race is open-ended. No arbitrarily chosen measure of time or distance, no judge or referee will tell you when you can stop striving and flop down on the grass. You are required to do that yourself – you alone. The race ends when you say it ends. Minor Axiom III tells you how to arrive at this ending. Decide where the finish line is before you start the race.

Investment capital is money just like any other money, Loeb pointed out. It needn’t be segregated and marked ‘hands off’. Certainly, there are all sorts of good reasons for sitting on it. It will comfort you in your old age, it’s a parachute for emergencies, it’s something to pass on to your kids, it gives you that cozy immersed feeling, and so on. All that is nice. But you might as well have a little fun with the money too. Skimming some off the top once in a while, especially at ending positions, is a better idea than it is generally credited with being.

Now let’s see just what the Second Axiom advises you to do. It says, “Sell too soon”. Don’t wait for booms to reach their peaks. Don’t hope for winning streaks to go on and on. Don’t stretch your luck. Expect winning streaks to be short. When you reach a previously decided-upon ending position, cash out and walk away. Do this even when everything looks rosy, even when you’re optimistic, even when everybody around you is saying the boom will keep roaring along.

The only reason for not doing it would be that some new situation has arisen, and this situation makes you all but certain that you can go on winning for a while. Except in such unusual circumstances, get in the habit of selling too soon. And when you’ve sold, don’t torment yourself if the winning set continues without you. In all likelihood it won’t continue long. If it does, console yourself by thinking of all the times when selling too soon preserved gains you would otherwise have lost.

The Third Major Axiom: On Hope When the ship starts to sink...

Knowing how to get out of a bad situation may be the rarest of all speculative gifts. It is rare because it is difficult to acquire. It takes courage and a kind of honesty with a cutting edge like a razor blade. It is an ability that separates the men and women from the boys and girls. Some say it is the most important of all the tools in a gambler’s or speculator’s kit.

An amateur gambler hopes or prays the cards will fall his way, but a professional studies how he will save himself when they fall against him.

the idea is to cut losses early. You take small losses to protect yourself from big ones.