What is James Holzhauer doing? In the 30-plus years that “Jeopardy” has been on the air, no one has ever played the game like him.
I know because, more than 30 years ago, I was a “Jeopardy” champion. I won one day. Then I lost to Jonathan, a pedicab driver from Honolulu. Jonathan got his timing down in Double Jeopardy, pedaled right by me, and then left me for roadkill in Final Jeopardy.
“What is ‘Shogun’?” No. The correct question was “What is ‘Roots’?” Jonathan wrote “Is it ‘Roots’?” The judges approved. It still hurts.
Jonathan gave me a beating, but I assure you, Holzhauer would have really crushed me. The 34-year-old Holzhauer routinely buzzes in first, bets big, and rarely misses a question. His wins are romps, and his challengers are doomed to their puny consolation prizes.
I mean, for Alex’s sake, why hasn’t anyone done this before? Perhaps the most surprising thing about Holzhauer is, well, that he is surprising.
“I’m just gobsmacked by James,” Ken Jennings told Wired. Jennings is the “Jeopardy” legend who in 2004 buzzed his way to a win streak record that still stands. “I would never have had the stomach for those kinds of bets. You’re going to have to be comfortable with losing the average American income on a single trivia question.”
To me, that was a clue to why Holzhauer took 30 years to emerge. I am now a finance professional, and it looks to me like Jennings and Holzhauer are tackling two different financial problems, with strategies to match.
Jennings wasn’t merely playing a game. He was putting his “Jeopardy” ups and downs in the context of his overall financial holdings, reasoning that if you’re losing sleep over the volatility of your money, you’re taking too much risk. That common-sense financial advice has guided the betting strategies of most “Jeopardy” players over the years, from Jennings (win streak: 74) to me (win streak: 1).
It’s more than just common sense, however. It is at the heart of modern portfolio theory (MPT), which underpins much of the advice offered by the finance industry. The math can get quite fancy, but MPT tackles volatility in two ways: showing how a diversified and balanced stock portfolio minimizes the ups and downs, and then keeping that portfolio big enough to produce a tolerable amount of turbulence, but no bigger.
Jennings’s betting strategy was essentially MPT. Keeping in mind his investment and his income as a yardstick for risk, he bet small. That kept the volatility of his overall wealth to an amount he could stomach.
So is Holzhauer wrong? Well, for “wrong,” his results are pretty darn good.
Maybe “Jeopardy” need not just be an exercise in prudent retirement savings. As a self-described professional gambler, Holzhauer is used to solving a different problem: max out your winnings, volatility be damned. With the importance it places on volatility, MPT is the wrong tool for that job.
There is another one, however — one that claims a pedigree from both the classroom and the racetrack.
In 1957, a paper by Bell Labs scientist John Kelly described a betting rule now known as the Kelly Criterion. Kelly’s premise was an old-timey set-up straight out of “Guys and Dolls” or “The Sting.” His protagonist was a gambler determined to maximize winnings — volatility be damned, just like Holzhauer. Kelly’s bettor had access to “a private wire”— in other words, an exclusive phone line to a tipster about a horse race. The tip was good, but it wasn’t necessarily a sure thing. So the gambler needed to know how much to risk on helpful but imperfect information.
Holzhauer is going 9-for-10 on Daily Double questions. That edge functions like his own private wire — usually correct, but not a sure thing. Plug in the inputs and the Kelly Criterion tells Holzhauer to bet 80 percent of his stack. That’s far more than Jennings’s bets, or those of Holzhauer’s other predecessors.
Clearly, Holzhauer has game. He’s made seven figures playing “Jeopardy.” But it’s been a roller-coaster. More than once, he has built up a nice pot, only to go bust on a Daily Double. From thousands of dollars down to nothing — swings that are not acceptable for most investment portfolios.
The Kelly Criterion’s nonchalant approach to volatility is one of many of its limitations. It works best for games with defined rules, limited decisions, and enough turns to let the probabilities play out. For example, “Jeopardy.”
Is it good for anything else?
Almost never for investing. On “Jeopardy,” Holzhauer feasts on 90-10 bets that simply don’t appear in the market, at least for law-abiding citizens.
But think about other financial decisions we face. Buying a car, opening a retirement account, funding an education — the check size for each is daunting. Yet common sense tells us that if we’ve done the research, we should go all in. In each case, given the low risk and an attractive payout, the Kelly Criterion would say the same thing: Do it.
They may not be as glamorous as “Jeopardy,” but there are also rewards for smart bets on life’s little Daily Doubles.
Tom Rutledge is a Boston-based fixed-income strategist at an alternative fund manager.