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Insider: A Strong Foundation – Risk

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Welcome back, readers! Every once in awhile, I feel it's important to write an article dedicated to the fundamentals of Magic finance, or of investment in general.

With that in mind I'm debuting a series on what it takes to build a strong foundation for your foray into Magic: The Gathering speculation. The "Strong Foundation" articles will not focus on specific picks or recent market movements, but instead help our newer members get a better grasp on some of these fundamentals. If you began that particular journey a while ago, hopefully these articles will serve as a reminder and to strengthen your understanding.

Today I'll be discussing the concept of risk. What it is, why it matters, and how it applies to the world of Magic finance.

Risk

"Risk comes from not knowing what you're doing."

-Warren Buffet

warren buffet

For those who don't know who Warren Buffet is, he's an American investor who started with a humble beginning and became one of the world's wealthiest men. He is often cited as the epitome of the "American Dream." He's often known for his long-term investment approach which, while often not as glamorous as other approaches, has proven itself time and time again. His quote above is incredibly important and one that even MTG finance veterans may need to remind themselves of, especially when they are entering a new market or environment.

Risk (noun): a situation involving exposure to danger.

Above is the literal definition of risk, but what does it mean to MTG finance? Well, there are two types of risks; those we can control and those we can't control. Lets examine what these look like in the specific context of Magic.

Controllable Risks

  • How many copies of a card we have. Every time a card goes up, our profits are multiplied by the number of copies of said card and because of this we are often tempted to "go deep" when we think we've identified a promising speculation target. It's easy to get blinded by potential dollar signs. However, every copy you pick up has some amount of risk attached to it. Besides potential profit, every copy also carries with it potential loss; so the more copies you have the harder you're hit if the card drops.
  • How diverse our portfolio is. There is a reason most financial advisers advise clients to diversify their investments. We know there are uncontrollable risks and events that can occur that could devastate a specific industry. If you were only invested in the internet industry in the late 90's/early 2000's then you might have seen some huge gains early on only to get obliterated when the dot-com bubble finally burst. In Magic terms, this means it's wise to invest in multiple decks and/or multiple formats, so you don't end up holding hundreds of copies of Splinter Twin after they announce a banning.
  • How much we have invested in MTG finance. We've seen spectacular growth in the MTG finance realm over the past few years, which has yielded solid profits for those of us who got in early. It's natural to focus on what has done well and continue to invest in that, but sometimes the relative success of the Magic market can give us tunnel vision. Remember the potential for losses is always present. Past success doesn't guarantee future success.

As a result, one major investment rule of thumb is to risk only what you can afford to lose. If you have $400 to make rent at the end of the month, and spend it picking up 40 copies of some hot $10 Standard staple that might go to $12 by next week, you risk becoming homeless to potentially make some money. It isn't hard to see why this is a bad idea.

Uncontrollable Risks

  • What Wizards of the Coast reprints. I've previously done an analysis on the typical price drop due to reprints. The average drop was around 28%, but the range varied considerably from about 10% to 70%. (A small few actually went up, usually because of a bump in rarity, or because older copies were considered "nicer.") We speculators don't know what WoTC will reprint; the best we can do is make educated guesses based on past trends.
  • What WoTC bans/unbans. Similar to what they reprint, WoTC doesn't leak what they will be banning or unbanning. As we saw with Splinter Twin and Summer Bloom, this can cause massive drops in value of not only the banned cards but any that are specifically played because of said cards. When Twin got banned, Deceiver Exarch went from $3.50 to its current price of $1.84, a 52.5% drop in value, though even now that price seems high as demand for those is very low.

The same goes for unbans. While the potential for significant overnight gains is appealing, demand is always limited on a card that's currently banned---investing in them can tie up money that isn't easy to cash out for an indefinite period of time.

  • What deck becomes the "new hot tech." The Magic metagame changes, in Standard quite often, in eternal formats a bit slower. As MTG speculators we can jump on the train when we see a deck that looks like it will take off (that's why we sent Kelly and Doug to Pro Tour Shadows over Innistrad), or do our research into what's doing well on MTGO (where a lot of new technology comes from thanks to the high volume of play).

However, we still have no direct control over the success of these decks (unless you're the actual creator of the deck and do well with it at a major event). We also have no control over how the playerbase, as a collection of individuals with their own views, will react to any new decks or technology. So while we can invest in a good card at a good price, we can't guarantee that it will see more play and thus see an increase in demand.

  • What WoTC prints. While this is similar to my first point about reprints, there's another dynamic at play in a card game that constantly evolves. Over the past 20 years we've seen the power level of Magic cards shift from spells to creatures. Assuming this trend continues, "pushed" creatures in new sets may outclass or entirely obsolete old staples. WotC has been pretty good about not outclassing a staple they just printed in the next set, but that's no guarantee they won't (whether on purpose or by accident.)

WoTC can also print hosers that devalue traditionally dominant strategies, new tools for an archetype that predates on another, and so on. Really the possibilities are as endless as Magic itself, which constitutes a constant risk the Magic speculator must be aware of.

  • What major vendors will do. When Star City Games announced that they were cutting back the number of Legacy Opens, many Legacy staples took a hit. While many saw this as inevitable, the timing was unknown and those of us who had a good bit invested in the format had to re-evaluate our positions.

Many peoples' worlds were turned upside down and a lot of money was suddenly lost as players jumped off the Legacy ship and in turn prices took a plunge. The adage of always trading into Legacy staples suddenly switched from rule-of-thumb to trap-to-avoid, as one could easily be left with expensive cards that would continually drift downward as players left the format.

Luckily, WoTC has recently given us Legacy aficionados hope with Eternal Masters and Reserved List Legacy cards actually spiked back hard (specifically dual lands). However, the point here is that many speculators couldn't look past the ability to "lock in" profits by trading elastically-priced cards for stable ones. Then that stability went away.

Conclusion

Understanding the fundamentals of risk generally, and the types associated with Magic speculation, is key to a strong foundation in the MTG finance realm. By understanding that there are two types of risk, only one of which we have any control over, we can best mitigate the amount of risk we take with any particular speculation target.

The quote from Mr. Buffet reminds us that we can't know everything, so there will always be some risk. But being well versed in the risks associated with any target will allow us to decide how much we are willing to take on and when we need to hold off. Sometimes the best MTG finance decision we can make is choosing not to act because the risk is too high.

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