[Litodude]

Originally Posted by Reincarnate

This is the ultimate example: http://en.wikipedia.org/wiki/St._Petersburg_paradox

Both you and Litodude have pretty much explained this, but I just felt the need to throw some math in here.

In this game, you begin with a pot of $2. You flip a coin. If it lands tails, the game ends and you take the pot. If it lands heads, the pot doubles and you continue / repeat the process again. What's the expected value of this game? (1/2)*2 + (1/4)*4 + (1/8)*8 + ... and so on. This reduces to 1 + 1 + 1 + 1 + ..., which implies an infinite expected value.

this would make sense if the price of stocks moved 1:1 based on the multitude of calculations of the assets' underlying value but there's differentiation between the two (measured by P/E, or share price divided by earnings per share (EPS)) that doesn't match. and it varies between industries like tech, where the norm might be 100x forward P/E or cyclical industries where the P/E is about 4-7x.

there's also transaction fees or commission fees (normal in the casino as well) but more evident in the market since the commission or 'ante' is taken at the beginning of the trade.

so your $2 initial purchase of X starts off at like 1.98 and the asset that's worth $2 really isn't $2 it's more like .35x but the price to own that stock is increased because more people want it and yadda yadda.