More on this book
Community
Kindle Notes & Highlights
As I understand it, the catalyst for the Turtle training program was a disagreement between you and Richard Dennis as to whether successful trading could be taught. Yes. I took the point of view that it simply couldn’t be taught. I argued that just because we could do it didn’t necessarily mean that we could teach it. I assumed that a trader added something that couldn’t be encapsulated in a mechanical program. I was proven wrong. The Turtle program proved to be an outstanding success. By and large, they learned to trade exceedingly well. The answer to the question of whether trading can be
...more
This highlight has been truncated due to consecutive passage length restrictions.
Decision theorists have performed experiments in which people are given various choices between sure things (amounts of money) and simple lotteries in order to see if the subjects’ preferences are rationally ordered. They find that people will generally choose a sure gain over a lottery with a higher expected gain but that they will shun a sure loss in favor of an even worse lottery (as long as the lottery gives them a chance of coming out ahead). These evidently instinctive human tendencies spell doom for the trader—take your profits, but play with your losses.
This attitude is also culturally reinforced, as exemplified by the advice: Seize opportunities, but hold your ground in adversity. Better advice to the trader would be: Watch idly while profit-taking opportunities arise, but in adversity run like a jackrabbit. One common adage on this subject that is completely wrongheaded is: You can’t go broke taking profits. That’s precisely how many traders do go broke. While amateurs go broke by taking large losses, professionals go broke by taking small profits. The problem in a nutshell is that human nature does not operate to maximize gain but rather
...more
There’s a constellation of cognitive and emotional factors that makes people automatically countertrend in their approach. People want to buy cheap and sell dear; this by itself makes them countertrend. But the notion of cheapness or dearness must be anchored to something. People tend to view the prices they’re used to as normal and prices removed from these levels as aberrant. This perspective leads people to trade counter to an emerging trend on the assumption that prices will eventually return to “normal.” Therein lies the path to disaster. What other aspects of human nature impede
...more
The people who survive avoid snowball scenarios in which bad trades cause them to become emotionally destabilized and make more bad trades. They are also able to feel the pain of losing. If you don’t feel the pain of a loss, then you’re in the same position as those unfortunate people who have no pain sensors. If they leave their hand on a hot stove, it will burn off. There is no way to survive in this world without pain. Similarly, in the markets, if the losses don’t hurt, your financial survival is tenuous. I know of a few multimillionaires who started trading with inherited wealth. In each
...more
If a trader doesn’t know why he’s losing, then it’s hopeless unless he can find out what he’s doing wrong. In the case of the trader who knows what he’s doing wrong, my advice is deceptively simple: He should stop doing what he is doing wrong. If he can’t change his behavior, this type of person should consider becoming a dogmatic system trader.
In many ways, large profits are even more insidious than large losses in terms of emotional destabilization. I think it’s important not to be emotionally attached to large profits. I’ve certainly made some of my worst trades after long periods of winning. When you’re on a big winning streak, there’s a temptation to think that you’re doing something special, which will allow you to continue to propel yourself upward. You start to think that you can afford to make shoddy decisions. You can imagine what happens next. As a general rule, losses make you strong and profits make you weak.
If you’re playing for the emotional satisfaction, you’re bound to lose, because what feels good is often the wrong thing to do. Richard Dennis used to say, somewhat facetiously, “If it feels good, don’t do it.” In fact, one rule we taught the Turtles was: When all the criteria are in balance, do the thing you least want to do. You have to decide early on whether you’re playing for the fun or for the success. Whether you measure it in money or in some other way, to win at trading you have to be playing for the success.
When behavioral psychologists have compared the relative addictiveness of various reinforcement schedules, they found that intermittent reinforcement—positive and negative dispensed randomly (for example, the rat doesn’t know whether it will get pleasure or pain when it hits the bar)—is the most addictive alternative of all, more addictive than positive reinforcement only. Intermittent reinforcement describes the experience of the compulsive gambler as well as the futures trader. The difference is that, just perhaps, the trader can make money. However, as with most of the “affective” aspects
...more
Some people are good at not expending emotional energy on situations over which they have no control. (I am not one of them.) An old trader once told me: “Don’t think about what the market’s going to do; you have absolutely no control over that. Think about what you’re going to do if it gets there.” In particular, you should spend no time at all thinking about those roseate scenarios in which the market goes your way, since in those situations, there’s nothing more for you to do. Focus instead on those things you want least to happen and on what your response should be.
It helps not to be preoccupied with your losses. If you’re worried, channel that energy into research. Over the years at C&D [the company at which Dennis and Eckhardt were partners], we made our best research breakthroughs when we were losing.
Your hypothesis implies that most traders would be better off throwing darts than using their existing method—a provocative thought. How do you explain this phenomenon? The market behaves much like an opponent who is trying to teach you to trade poorly. I don’t want to suggest that the market actually has intentions, because it doesn’t. An appropriate analogy is evolutionary theory, in which you can talk as though evolution has a purpose. For example, birds evolved wings in order to fly. Technically, that’s wrong. Birds aren’t Darwinians, and you can be sure no bird or protobird ever
...more
Since the market spends more time in consolidations than in trends, it teaches you to buy dips and sell rallies. Since the market trades through the same prices again and again and seems, if only you wait long enough, to return to prices it has visited before, it teaches you to hold on to bad trades. The market likes to lull you into the false security of high success rate techniques, which often lose disastrously in the long run. The general idea is that what works most of the time is nearly the opposite of what works in the long run.
Eckhardt proposes that the tendency to do what is comfortable will actually lead most people to experience even worse than random results in the markets. In effect, he is saying that most people don’t lose simply because they lack the skill to do better than random but also because natural human traits entice them into behavioral patterns that will actually lead to worse than random results—a particularly compelling observation. If Eckhardt is right—and I believe he is—the critical implication is that our natural instincts will mislead us in trading. Therefore, the first step in succeeding as
...more
“It is my proposition, Colin, that anyone can be taught to be a superior trader. There is nothing magical about it. There is no rare talent involved. It is simply a matter of being taught the appropriate rules and following those rules. There is no question in my mind that I could train virtually anyone to make a fortune trading.” “That is nonsense, Duncan. You just think your trading success is due to your system. What you do not realize is that you have a special talent. You could print out your rules in twelve-inch-high letters and have people read them every day for a year, and they still
...more
The first group performed so well during the initial year that Dennis repeated the experiment the following year with a second group of ten. These two groups of traders collectively became known in the industry as the Turtles. This rather curious name had its origins in a trip Richard Dennis took to the Orient during this period of time. At one point, he visited a turtle farm, in which turtles were raised in huge vats. In Dennis’s mind, the image of growing thousands of squirming turtles in a huge vat was a perfect analogy for training traders. The name stuck.
By the end of this process, I had checked off eighteen of the more than one hundred CTAs surveyed. Eight of these eighteen names (44 percent) turned out to be Turtles. Absolutely astounding! Richard Dennis was obviously right. (Admittedly, the results would have been less dramatic a year later, as 1991 proved to be a tough year for many of the Turtles.) It seemed clear to me that if I were going to pursue the quest for the ingredients in trading success, I should be talking to the Turtles.
One nugget of advice that I believe is valuable to anyone trading the markets is: Don’t worry about what the markets are going to do, worry about what you are going to do in response to the markets.
Those people who are wise and prudent gamblers would probably also be wise and prudent investors, because they have a somewhat detached view of the value of money. On the other hand, those people who get caught up in the excitement of the amount of the wager, whether it’s gambling or investment, are likely to be destabilized by losses.
I realize that this chapter has not provided any definitive answers as to what made the Turtles such a successful trading group. Nevertheless, it does offer an incredibly important message to those interested in trading: It is possible to develop a system that can significantly beat the market. Moreover, if you can discover such a system and exercise the discipline to follow it, you can succeed in the markets without being a born trader.
The most liquid period is the opening. Liquidity starts falling off pretty quickly after the opening. The second most liquid time of day is the close. Trading volume typically forms a U-shaped curve throughout the day. There’s a lot of liquidity right at the opening, it then falls off, reaching a nadir at midday, and then it starts to climb back up, reaching a secondary peak on the close. Generally speaking, this pattern holds in almost every market. It’s actually pretty amazing.
We have a maximum loss point of 10 percent per month. If we ever lost that amount, we’d exit all our positions and wait until the start of the next month to begin trading again. Thankfully, that has never happened. We also have a fourth risk management rule: At the beginning of each month, I determine the maximum position size that I’m willing to take in each market, and I don’t exceed that limit, regardless of how bullish or bearish I get. This rule keeps me in check.
Join Club 3000. [This organization issues a newsletter composed of members’ letters that discuss systems and other aspects of trading. The name derives from its origins. Club 3000 was formed in frustration by members who had paid approximately $3,000 for a system they felt was essentially worthless and decided to get together to share information about various systems.] I would also subscribe to such publications as Futures, Technical Analysis of Stocks and Commodities, and Commodity Traders Consumers Report for their reviews on systems. Also, once you buy a system, make sure you test it on
...more
Do you basically believe that if somebody developed a really good system they wouldn’t be selling it? To some degree, I believe that. Sure, it’s possible that a system developer may not have any money, but if the system is that good, he should be able to convince friends, family, anybody to put some money into the system and trade it. Are there any technical indicators in the public domain that you find useful? Moving averages are useful. They’ll work if you watch your risk management. I believe you can make an above-average return by using moving averages, if you’re smart about it.
...more
If you have a streak when you’re doing very well, day after day, do you get to the point where you say, “This just can’t keep on”? And do you start reducing your position because of that? Actually, the better I’m doing, the bigger I play, and the worse I’m doing, the smaller I play. So you believe in streaks? Yes, not just in trading, but in most things in life. If a team has won eight games in a row, you don’t best against them winning their ninth game.
We give our new traders three books when they start: your first book, The Complete Guide to the Futures Markets [Jack D. Schwager, John Wiley & Sons, 1984], The Handbook of Futures Markets, by Perry Kaufman [John Wiley & Sons, 1984], and The Commodity Futures Game: Who Wins? Who Loses? Why? by Richard J. Tewles and Frank J. Jones [McGraw-Hill, 1987]. Then there are some fun books I recommend, like your Market Wizards, which is a good motivational work. We also have loads of other books in our library, and we let traders choose which other ones they wish to read.
So there are people out there who actually might have a good idea that could make money, but they’ll never find out because when they first try to do it, they bet too much and they’re knocked out of the game.
What are the trading rules you live by? Make sure you have the edge. Know what your edge is. Have rigid risk control rules like the ones we talked about earlier. Basically, when you get down to it, to make money, you need to have an edge and employ good money management. Good money management alone isn’t going to increase your edge at all. If your system isn’t any good, you’re still going to lose money, no matter how effective your money management rules are. But if you have an approach that makes money, then money management can make the difference between success and failure.
It is instructive to compare Monroe Trout’s message with that of Blair Hull (see Part VI). Although their trading methods are completely different—Trout is a directional trader, whereas Hull is an arbitrageur—their assessments of the key to successful trading are virtually identical: a combination of having an edge and using rigid money management controls.
Although I employ technical analysis to make my trading decisions, there are a few important differences between my method and the approaches of most other traders in this group. First, I think very few other technical traders have gone back more than thirty years in their chart studies, let alone more than a hundred years. Second, I don’t always interpret the same pattern in the same way. I also factor in where I believe we are at in terms of long-term economic cycles. This factor alone can lead to very substantial differences between the conclusions I might draw from the charts versus those
...more
Whenever I’m on vacation, I continue to chart the markets. In the summer of 1990, while on vacation in the Bahamas, I was updating my charts on a picnic table beneath the palm trees. I noticed patterns that indicated buy signals in all the energy markets. These signals seemed particularly odd because it’s very unusual to get a buy signal in heating oil during the summer. However, I didn’t question the trade and simply phoned in the orders. Three days later, Iraq invaded Kuwait and oil prices exploded.
What is the single most important statement you could make about the markets? The essential element is that the markets are ultimately based on human psychology, and by charting the markets you’re merely converting human psychology into graphic representations. I believe that the human mind is more powerful than any computer in analyzing the implications of these price graphs.
George Soros has a philosophy that I have also adopted: The way to build long-term returns is through preservation of capital and home runs. You can be far more aggressive when you’re making good profits. Many managers, once they’re up 30 or 40 percent, will book their year [i.e., trade very cautiously for the remainder of the year so as not to jeopardize the very good return that has already been realized]. The way to attain truly superior long-term returns is to grind it out until you’re up 30 or 40 percent, and then if you have the convictions, go for a 100 percent year. If you can put
...more
Soros has taught me that when you have tremendous conviction on a trade, you have to go for the jugular. It takes courage to be a pig. It takes courage to ride a profit with huge leverage. As far as Soros is concerned, when you’re right on something, you can’t own enough.
One basic market truth (or, perhaps more accurately, one basic truth about human nature) is that you can’t win if you have to win. Druckenmiller’s plunge into T-bill futures in a desperate attempt to save his firm from financial ruin provides a classic example. Even though he bought T-bill futures within one week of their all-time low (you can’t pick a trade much better than that), he lost all his money. The very need to win poisoned the trade—in this instance, through grossly excessive leverage and a lack of planning. The market is a stern master that seldom tolerates the carelessness
...more
Another important point to emphasize is that a small percentage of huge winners account for the bulk of Driehaus’s superior performance. You don’t have to be right the majority of the time, but you do have to take advantage of the situations when you are right. Achieving this dictate requires two essential elements: taking larger positions when one has a high degree of confidence (e.g., Home Shopping Network was Driehaus’s largest position ever) and holding such positions long enough to realize most of the potential. The latter condition means avoiding the temptation to take profits after a
...more
Carefully researching and rigorously verifying a trading philosophy is essential to developing the confidence necessary to stay the course during the difficult times—and there will always be such times, even for the most successful approaches.
By embracing a loss, really feeling it, I tend to have less fear about a potential loss the next time around. If I can’t get over the emotions of taking a loss in twenty-four hours, then I’m trading too large or doing something else wrong. Also, the process of rehearsing potential losses and confronting actual losses helps me adapt to increasing levels of risk over time.
The lesson for me was that if you break a discipline once, the next transgression becomes much easier. Breaking a diet provides an appropriate analogy—once you do it, it becomes much easier to make further exceptions.
Have the markets changed in the past decade? In a micro sense—yes; in a macro sense—no. Opportunities change, strategies change, but people and psychology do not change. If trend-following systems don’t work as well, something else will. There’s always money being lost, so someone out there has to win.
What do you believe are the major myths about markets? A prevailing myth on Wall Street is that no one can consistently beat the market year in, year out, with steady returns of 20 or 30 percent a year. On the other hand, the sales side would have you believe that it can be done by anyone. Neither is really the truth.
Why do traders lose? First of all, most traders don’t have a winning strategy. Second, even among those traders who do, many don’t follow their strategy. Trading puts pressure on weaker human traits and seems to seek out each individual’s Achilles’ heel.
What makes a good trader? A critical ingredient is a maverick mind. It’s also important to have a blend between an artistic side and a scientific side. You need the artistic side to imagine, discover, and create trading strategies. You need the scientific side to translate those ideas into firm trading rules and to execute those rules.
Can people be successful using a purchased system? I believe that systems tend to be more useful or successful for the originator than for someone else. It’s important that an approach be personalized; otherwise, you won’t have the confidence to follow it. It’s unlikely that someone else’s approach will be consistent with your own personality. It’s also possible that individuals who become successful traders are not the type to use someone else’s approach and that successful traders don’t sell their systems.
What advice would you give to a novice trader? There are five basic steps to becoming a successful trader. First, focus on trading vehicles, strategies, and time horizons that suit your personality. Second, identify nonrandom price behavior, while recognizing that markets are random most of the time. Third, absolutely convince yourself that what you have found is statistically valid. Fourth, set up trading rules. Fifth, follow the rules. In a nutshell, it all comes down to: Do your own thing (independence); and do the right thing (discipline).
If, however, you are able to uncover nonrandom market patterns and can convincingly demonstrate their validity, only two steps remain to achieve trading success: Devise your trading rules and then follow your trading rules.
Although Sperandeo never bothered to finish the credits for his nighttime college degree, over the years he has done an enormous amount of reading. In addition to books about the market, Sperandeo has read widely in the somewhat related fields of economics, psychology, and philosophy. Overall, he estimates that he has read approximately twenty-five hundred books on these subjects.
How did you become a trader? I think my first related interest was an enthusiasm for poker. As a teenager, I literally earned a living by playing poker. When I first started playing, I read every book I could find on the game and quickly learned that winning was a matter of managing the odds. In other words, if you played only the hands in which the odds were in your favor and folded when they were not, you would end up winning more times than you lost. I memorized the odds of every important card combination, and I was very successful at the game.
In my opinion, one reason why many types of technical analysis don’t work too well is because such methods are often applied indiscriminately. For example, if you see a head-and-shoulders pattern form in what is the market equivalent of a twenty-year-old, the odds are that the market is not likely to die so quickly. However, if you see the same chart formation in the market equivalent of an eighty-year-old, there’s a much better chance of that pattern being an accurate indicator of a price top. Trading the market without knowing what stage it is in is like selling life insurance to
...more
Is there anything you consider unique about your money management approach? Yes, I analyze risk by measuring the extent and duration of price swings. For example, if the market has risen 20 percent in roughly 107 days, even if I’m still extremely bullish I’ll have a maximum position size of 50 percent, because statistically we’ve reached the median historical magnitude and duration of an upmove. In other words, you vary the size of the bet relative to your perception of the market risk. Do you do anything differently in terms of cutting loses? Losses are always predetermined so that I
...more
This highlight has been truncated due to consecutive passage length restrictions.
