Market Wizards: Interviews with Top Traders

by Jack D. Schwager

So to answer the question at the start of this section, yes, the markets can be beat, although doing so is very difficult.

I learned that if you shoot for what you want, you stand a much better chance of getting it because you care much more.

One of my rules was to get out when the volatility and the momentum became absolutely insane.

The first thing I would say is always bet less than 5 percent of your money on any one idea.

Another thing is that if a position doesn’t feel right as soon as you put it on, don’t be embarrassed to change your mind and get right out.

While you are in, you can’t think. When you get out, then you can think clearly again.

You need to be aware that the world is very sophisticated and always ask yourself: “How many people are left to act on this particular idea?” You have to consider whether the market has already discounted your idea.

More money is lost listening to brokers than any other way.

can say that 99 percent of the time, the market is bigger than anybody and, sooner or later, it goes where it wants to go. There are exceptions, but they don’t last too long.

If you can find somebody who is really open to seeing anything, then you have found the raw ingredient of a good trader

Gut feel is very important. I don’t know of any great professional trader that doesn’t have it. Being a successful trader also takes courage: the courage to try, the courage to fail, the courage to succeed, and the courage to keep on going when the going gets tough.

You can’t sustain it if you don’t have some other focus. Eventually, you wind up overtrading or getting excessively disturbed about temporary failures.

look for confirmation from the chart, the fundamentals, and the market action. I think you can trade anything in the world that way.

So you like seeing a high EPS with a low P/E. Yes. That’s the best combination.

Never commit more than 5 percent of your money to a single trade idea.

In addition to not overtrading, Marcus stresses the importance of committing to an exit point on every trade. He feels that protective stops are very important because they force this commitment on the trader. He also recommends liquidating positions to achieve mental clarity when one is losing money and is confused regarding market decisions.

No, that’s true. He proposed surpluses that were supposed to be countercyclical to deficits. Surpluses in good times; deficits in bad times. The trouble is that we have only one side of that equation because of the lack of political will to create the surpluses when times are good. So what we really ought to do is admit that Keynesian economics is just an excuse for easy money, overspending, and overconsuming. We ought to just admit that the government is a debt junkie and the whole concept of deficit spending is flawed in practice.

There are certain shibboleths that exist in the world of trading, which may or may not be accurate, but I have not followed them. For example, there is a general view that you shouldn’t short a stock until it has already peaked and started down—that you shouldn’t go short until the stock is already reflecting problems that are evident for all to see. In some sense, I can understand that. Maybe that is a superficially safer way to short stocks and you can sleep more comfortably using that approach. However, I have never done it that way. My attitude has always been that to make money in the markets, you have to be willing to get in the way of danger. I have always tended to short stocks that were favorites and backed by a great deal of institutional enthusiasm.

Good trading is a peculiar balance between the conviction to follow your ideas and the flexibility to recognize when you have made a mistake. You need to believe in something, but at the same time, you are going to be wrong a considerable number of times. The balance between confidence and humility is best learned through extensive experience and mistakes. There should be a respect for the person on the other side of the trade. Always ask yourself: Why does he want to sell? What does he know that I don’t? Finally, you have to be intellectually honest with yourself and others. In my judgment, all great traders are seekers of truth.

Yes, I usually do; otherwise, I don’t bother doing it. One of the best rules anybody can learn about investing is to do nothing, absolutely nothing, unless there is something to do. Most people—not that I’m better than most people—always have to be playing; they always have to be doing something. They make a big play and say, “Boy, am I smart, I just tripled my money.” Then they rush out and have to do something else with that money. They can’t just sit there and wait for something new to develop.

It’s always the same cycle. When a market is very low, there comes a time when some people buy it because it has become undervalued. The market starts to go up, and more people buy because it is a fundamentally sound thing to do, or because the charts look good. In the next stage, people buy because it has been the thing to do. My mother calls me up and says, “Buy me XYZ stock.” I ask her, “Why?” “Because the stock has tripled,” she answers. Finally, there comes the magical stage: People are hysterical to buy, because they know that the market is going to go up forever, and prices exceed any kind of rational, logical economic value.

I also don’t lose much on my trades, because I wait for the exact right moment. Most people will not wait for the environment to tip itself off. They will walk into the forest when it is still dark, while I wait until it gets light. Although the cheetah is the fastest animal in the world and can catch any animal on the plains, it will wait until it is absolutely sure it can catch its prey. It may hide in the bush for a week, waiting for just the right moment. It will wait for a baby antelope, and not just any baby antelope, but preferably one that is also sick or lame. Only then, when there is no chance it can lose its prey, does it attack. That, to me, is the epitome of professional trading.

They trade too much. They don’t pick their spots selectively enough. When they see the market moving, they want to be in on the action. So, they end up forcing the trade rather than waiting patiently. Patience is an important trait many people don’t have.

Always respect the marketplace. Never take anything for granted. Do your homework. Recap the day. Figure out what you did right and what you did wrong. That is one part of the homework; the other part is projective. What do I want to happen tomorrow? What happens if the opposite occurs? What happens if nothing happens? Think through all the “what-ifs.” Anticipate and plan, rather than react.

Traders focus almost entirely on where to enter a trade. In reality, the entry size is often more important than the entry price because if the size is too large, a trader will be more likely to exit a good trade on a meaningless adverse price move. A common mistake made by traders is that they let their greed influence position sizing beyond their comfort level. Why put on a 5 percent position when you can put on a 10 percent position and double the profits? The problem is that the larger the position, the greater the danger that trading decisions will be driven by fear rather than by judgment and experience. Trading size needs to kept small enough so that fear does not become the prevailing instinct guiding your judgment.

Don’t make trading decisions based on where you bought (or sold) a stock or futures contract. The market doesn’t care where you entered your position. The relevant question is: What would you do if you were not in the market? A common error traders make when they realize they are in a bad trade is to commit to getting out, but only after the market returns to their entry level—the proverbial “I will get out when I am even.” The linkage of liquidation to entry level is one of the major causes of turning small losses into large ones. Why is getting out even so important? It is a matter of ego. If you can get out at even, you can say, “I was not wrong. I did not make a mistake.” And, ironically, that need to not be wrong is the very reason why most people lose money in the markets.