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Book Summary & Highlights: Unknown Market Wizards: The best traders you've never heard of By Jack Schwager

Book Summary & Highlights: Unknown Market Wizards: The best traders you've never heard of By Jack Schwager

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Pub Date:

2020

Amazon Summary

Unknown Market Wizards continues in the three-decade tradition of the hugely popular Market Wizards series, interviewing exceptionally successful traders to learn how they achieved their extraordinary performance results. The twist in Unknown Market Wizards is that the featured traders are individuals trading their own accounts. They are unknown to the investment world. Despite their anonymity, these traders have achieved performance records that rival, if not surpass, the best professional managers. Some of the stories include: - A trader who turned an initial account of $2,500 into $50 million. - A trader who achieved an average annual return of 337% over a 13-year period. - A trader who made tens of millions using a unique approach that employed neither fundamental nor technical analysis. - A former advertising executive who used classical chart analysis to achieve a 58% average annual return over a 27-year trading span. - A promising junior tennis player in the UK who abandoned his quest for a professional sporting career for trading and generated a nine-year track record with an average annual return just under 300%. World-renowned author and trading expert Jack D. Schwager is our guide. His trademark knowledgeable and sensitive interview style encourages the Wizards to reveal the fascinating details of their training, experience, tactics, strategies, and their best and worst trades. There are dashes of humour and revelations about the human side of trading throughout. The result is a engrossing new collection of trading wisdom, brimming with insights that can help all traders improve their outcomes.

About Author: Jack Schwager

Learn more about Jack Schwager...

People Interviewed

Futures Traders

  • Peter Brandt: Strong Opinions, Weakly Held
  • Jason Shapiro: The Contrarian
  • Richard Bargh: The Importance of Mindset
  • Amrit Sall: The Unicorn Sniper
  • Daljit Dhaliwal: Know Your Edge
  • John Netto: Monday Is My Favorite Day

Stock Traders

  • Jeffrey Neumann: Penny Wise, Dollar Wise
  • Chris Camillo: Neither
  • Marsten Parker: Don’t Quit Your Day Job
  • Michael Kean: Complementary Strategies
  • Pavel Krejčí: The Bellhop Who Beat the Pros

Lessons

1. There Is No Single True Path

After reading this book, it should be clear that there is no single formula for succeeding in the markets. The paths the traders interviewed traveled in achieving their exceptional performance were widely varied. The approaches ranged from fundamental to technical, to a combination of both, to neither. Trade holding periods ranged from minutes to months. Trading success is not about finding the right approach but instead finding the right approach for you. No one can tell you what that approach is; it is something you need to discover.

2. Find a Trading Method that is Compatible with Your Personality

Even an excellent methodology will yield poor results if it is not consistent with your beliefs and comfort zone. To succeed, traders must find their own market approach. Some examples: Dhaliwal started out using technical methods. He felt uncomfortable with the approach because he didn’t understand why it should work, and, consequently, he didn’t have any confidence that it would continue to work in the future. Dhaliwal became enormously successful when he switched to using fundamentals—an approach where he felt he had a much clearer understanding of why prices moved from one level to another. Neither fundamental nor technical analysis appealed to Camillo, so he came up with a third market analysis category, social arbitrage—profiting by spotting a societal shift or trend that will impact a stock and has not yet been reflected by the stock price. Krejčí was uncomfortable holding positions overnight. He dealt with this strong personal aversion to overnight risk by developing a strategy that could generate significant returns, at acceptable risk, on day trades. The lesson is that to succeed in the markets, you have to find a methodology that you are comfortable trading.

3. You May Have to Change Your Method Before You Find the Right One

Richard Bargh started out as a technical trader, switched to a fundamental approach, and ultimately discovered that combining his fundamental analysis with technical input worked best. If Parker didn’t have the flexibility to radically alter his trading approach—even to the extent of switching from momentum systems to their exact opposite, mean-reversion systems—he would never have survived, let alone continued to profit, as a trader.

4. Keep a Trading Journal

Maintaining a trading journal is one of the most effective tools a trader can use to improve. A trading journal can provide two critical types of information: what the trader is doing right and what the trader is doing wrong. Several of the traders interviewed (Bargh, Sall, Dhaliwal) emphasized the critical role of keeping a detailed trading journal in their improvement as traders. Besides documenting the reasons for trades and associated right and wrong decisions, a journal can also be useful in recording emotional observations. For example, Bargh records his thoughts and feelings daily to identify weaknesses in his mindset and to track how his mindset changes over time.

5. Categorize Trades

Categorizing trades by type can be extremely useful in determining what works and what doesn’t. Although systematic traders can test defined trade types retrospectively, discretionary traders must record the trade type and outcome as they occur. One thing Brandt regrets is that he didn’t keep track of results by types of trade. For example, he believes that trades that were not on his weekly monitor list were poor performers on balance, but he really doesn’t know if that assumption is true.

6. Know Your Edge

If you don’t know what your edge is, you don’t have one. Knowing your edge is critical to identifying which trades to focus on. For example, with the aid of his detailed trading journal, Dhaliwal was able to study the characteristics of his big wins. He discovered these trades shared multiple common denominators: the presence of an unexpected market event, harmony between his short-term and long-term views, and a tendency for the trade to work immediately. An awareness of the type of trades that accounted for the bulk of his gains—that is, understanding his edge—was an essential component of Dhaliwal’s stellar performance. As Dhaliwal advises, “Stay in the sphere of your edge by playing your game and not someone else’s.”

7. Learn from Your Mistakes

Learning from mistakes is how traders improve. Perhaps the most valuable benefit of a trading journal is that it greatly facilitates the identification of trading errors. Reviewing such a journal periodically can remind the trader of past mistakes and, in so doing, reduce the repetition of the same mistakes. Sall used his journal to identify a mistake he was making after winning periods. He noticed that he was continually taking subpar trades after highly profitable periods. He realized that because he came from a working-class background, these subpar trades were an act of self-sabotage to bring him “back down to earth.” Once he recognized the problem, he was able to avoid repeating it. As another example of a trader identifying a mistake through his trading journal, Dhaliwal noticed that emotional disharmony he was feeling could be traced to trades where he had a conflict between his short-term and long-term views. When he had a longer-term trade on but saw an opportunity for a short-term trade in the opposite direction, Dhaliwal would end up trading neither view effectively. Once he recognized the source of his trading error, he solved the problem by separating the two conflicting trades. He would leave the long-term trade on, and then trade the short-term opportunity separately.

8. The Power of Asymmetric Strategies

Most of the traders interviewed had track records characterized by large gains being far more frequent and much larger—sometimes tremendously greater—than large losses. These traders achieved their positively skewed return profiles by utilizing asymmetric trading strategies. The King of Asymmetry is Amrit Sall, who had 34 days with returns greater than 15% (three greater than 100%) and only one day with a double-digit loss (and that loss was caused by a computer glitch). Sall will wait for trades tied to events where he expects an immediate, significant price move and will exit the trade quickly if the anticipated market response fails to materialize. The average win on these trades will be far greater than the average loss. As another example, Neumann focuses on identifying trading opportunities that have the potential to be what Peter Lynch termed “ten baggers”—investments that achieve a tenfold price increase. He uses trendline breakouts to enter the trade and will liquidate immediately if the stock price fails to follow through.

9. Risk Management Is Critical

I don’t care how many times you’ve heard it, but when virtually every successful trader stresses how critical money management is, you better pay attention. Sure, money management is not as sexy as devising trade entry strategies, but it is essential to survival, let alone excelling. Several elements of risk management came up in the interviews: Individual position risk controls—It is striking how many of the interviewed traders experienced their worst loss due to the lack of a protective stop. Dhaliwal’s biggest loss—the trade he took in response to an erroneous FT story—was as large as it was because he didn’t have a stop. Sall’s worst loss, which occurred when his PC suddenly powered down at a critical moment, was also due to not having a stop. Kean learned the importance of limiting the risk on individual trades early in his career when he shorted a stock in a parabolic upmove without a plan on what to do if he was wrong. The stock price nearly doubled on him in a matter of days, resulting in a 10% hit to his portfolio—his worst loss ever. In all three cases, these experiences led the traders to use stops religiously. They never made the same mistake again. As another example of a trader transformation regarding risk control, Shapiro went from blowing up plus-half-million-dollar accounts twice to never entering a trade without a predetermined exit. Risk management at the portfolio level—Limiting the loss on individual trades is critical, but it is not sufficient for adequate risk control. Traders also need to be concerned about correlation between their positions. If different positions are significantly correlated, then the portfolio risk may be unacceptably high, even if every position has stop protection, because different trades will tend to lose money together. Shapiro handles the problem of an excess of correlated positions in two ways: He reduces the sizes of individual positions, and he seeks to add trades that are inversely correlated to the existing portfolio. The concept of building a portfolio of uncorrelated and inversely correlated positions also lies at the heart of Kean’s trading philosophy. Any long-only equity portfolio faces the problem that most of the positions will be highly correlated. Approximately 60% of Kean’s portfolio consists of a long equity component, which, by definition, will contain positions that are highly correlated with each other. Kean addresses this problem by combining this portion of his portfolio with a trading strategy that is, on balance, inversely correlated with long equities because the majority of these trades are shorts. Equity-based risk management—Even when risk management is applied at both the individual position and portfolio levels, equity drawdowns can still exceed acceptable levels. Equity-based risk controls will either cut position sizes or cease trading altogether when equity drawdowns reach specific threshold levels. For example, Dhaliwal will cut his position size in half if a drawdown exceeds 5%, and cut it by half again if a drawdown exceeds 8%. If a drawdown reaches 15%, Dhaliwal will stop trading altogether until he feels ready to resume trading. Equity-based risk controls can also be applied in dollar terms rather than percentage terms. Although the two are equivalent, a dollar-based risk point may be a more useful conceptualization, especially when starting to trade a new account. A risk control I recommend when starting a new trading account is to decide how much you are willing to lose before you stop trading. For example, if you open a $100,000 account, you might decide you are willing to risk $15,000 before you liquidate all positions and stop trading. There are three reasons why this type of risk action makes sense: If you reach your account risk point, it means whatever you are doing is not working. So stopping trading and reevaluating your methodology makes sense. If you are in a losing streak, taking a trading break and starting fresh when you feel ready and inspired to do so will usually be beneficial. Perhaps most importantly, determining how much you are willing to lose before you start trading will keep you from losing all your risk capital in one failed attempt. This approach is also powerful because, at its core, it is an asymmetric strategy (the advantages of which were discussed in #8): You can lose only the dollar amount you set as your risk cutout level, but your upside is entirely open-ended.

10. Choose Meaningful Stop

Points Dhaliwal makes the critical point that protective stops should be placed at a level that disproves your trade hypothesis. Don’t determine the stop by what you are willing to lose. If a meaningful stop point implies too much risk, it means that your position is too large. Reduce the position size so that you can place the stop at a price the market shouldn’t go to if your trade idea is correct, while still restricting the implied loss at that stop point to an amount within your risk tolerance on the trade.

11. You Don’t Have to Wait for a Stop to Be Hit

A stop is intended to limit your approximate maximum loss on a trade to some predetermined amount. However, as Bargh advises, you don’t need to wait for a stop to be hit. The longer a trade has an open loss, the more seriously you should consider liquidation even though the stop point hasn’t been hit. Bargh believes that the money saved exiting such trades before the stop point is reached will exceed the forgone profits on the trades that recover.

12. Brandt’s Friday Close Rule

Brandt will liquidate any trade that is showing an open loss as of Friday’s close. This rule is a specific example of the application of Bargh’s concept of not waiting for stops to be hit on lagging trades (#11). Brandt’s reasoning is that the Friday close is the most critical price of the week because it is the price at which all holders of positions commit to the risk of holding a position over the weekend. Brandt believes that an open loss on a position as of the Friday close has negative implications for the trade. Traders may wish to experiment applying (or tracking) Brandt’s rule to see whether, on balance, the reduction of losses on affected trades exceeds forgone profits.

13. Don’t Speculate with a Loss

Brandt’s worst loss occurred when he was long crude oil at the start of the First Gulf War, and the market opened far below his intended stop point the next morning. When I asked him whether he might delay his exit in such circumstances, he replied, “If you speculate with a loss to get less of a loss, you end up with more of a loss.” That indeed proved to be the case for this trade, as the market continued to sink further. I also have no doubt that Brandt’s admonition is good advice in general.

14. Winning Traders Have a Specific Methodology

Good trading is the antithesis of a shoot-from-the-hip approach. All the traders interviewed had a precise methodology. Your methodology should be based on exploiting trades that benefit from your edge (#6) combined with appropriate risk management (#9).

15. Stick to Trades Defined by Your Methodology

It is common for traders to be tempted to take trades that are entirely outside their sphere of expertise. One such example occurred when Kean let his discipline lapse. One year when he was well ahead with only a month to go, Kean took a flier buying a group of energy-related stocks simply because the sector was down sharply. The trade had nothing to do with his standard methodology. This impulsive trade cost him 7% by the time he liquidated two weeks later. Avoid the temptation to take trades unrelated to your methodology.

16. Your Methodology May Need to Change Markets change.

Over time, even an effective methodology may need to be altered. For example, in his early years, Dhaliwal’s most effective trading strategy was rapid entry in the direction of news headlines, seeking to capture the initial market reaction to the news. However, the development of algorithmic programs that could execute such trades faster than any human eventually made Dhaliwal’s strategy unviable. He adapted his strategy to do virtually the opposite trade: fade the initial reactions to headlines. As his career progressed, he focused on in-depth fundamental research and longer-term trades. Brandt is another example of a trader who had to modify his strategy. His trade entry was based on classical chart analysis patterns. However, many of the patterns that were once reliable ceased to be so. Brandt responded by significantly reducing the number of chart patterns he used for entry signals.

17. If You Are Uncomfortable with an Aspect of Your Methodology, Then Change It

If there is anything in your approach that is uncomfortable, you need to figure out how to change it. For example, Bargh felt unease with his exit strategy because there were instances when he would give back a substantial portion of large open profits on a trade. This sense of discomfort led Bargh to change his exit strategy in a way that avoided this problem.

18. How a Trade Idea Is Implemented Is Critical

One of Bargh’s biggest winning trades ever was a bet that the Brexit vote would pass. The obvious trade that would profit from a surprise approval of the Brexit referendum was a short in the British pound. The problem with this direct way of expressing a bet on the passage of Brexit was that the British pound was swinging wildly as vote results came in for each region. The direct trade of shorting the British pound risked getting stopped out at a substantial loss if the timing of the trade was slightly off. Bargh reasoned that if the Brexit vote passed, there would be a shift in market psychology to risk-off trades, such as long T-bonds. The advantage of long T-bonds versus short British pounds was that T-bonds were far less volatile, and hence the trade was less likely to get stopped out if correct, and would lose less if wrong. The indirect long T-bond position provided a far better return/risk position for expressing the trade idea. The lesson is that the direct way of implementing a market idea is not always the best approach.

19. Take Larger Positions on High-Conviction Trades

Don’t take the same size position or risk on every trade. Taking much larger positions on high-conviction trades is an essential factor underlying the incredibly outsized returns achieved by some of the traders in this book. Sall, for example, will be aggressive in his position sizing for trades that he perceives combine large positive asymmetry with a high probability of success. Neumann steps on the gas when he has a particularly high conviction on a trade. In the case of AunthenTek, he had over one-third of his entire account in this single position. To be clear, what is being advised is taking larger positions on high-conviction trades, not taking the huge positions (relative to equity) that traders such as Sall and Neumann will place when they see especially attractive market opportunities. Sall and Neumann are exceptionally skilled traders who have a high success rate on their strong-conviction trades and are quick to liquidate when a trade starts to move against them. For most ordinary traders, taking huge positions, no matter how high their conviction level, is a risky proposition.

20. Don’t Trade So Large that Fear Becomes a Dominant Factor

If you trade too large, fear will lead to poor trading decisions. In his early trading years, Bargh felt that he should be trading position size levels that exceeded his comfort level. As a consequence, he passed up many good trading opportunities. There is no contradiction between the advice here and the advice offered in the previous entry, which merely advised taking larger-than-normal positions on high-conviction trades. Even in that instance, the position should not be so large that fear interferes with the trade decision process.

21. If You Hope a Trade Will Work, Get Out

If you find yourself hoping your trade will work, that is a sure sign that you lack conviction. Early in his career, when Sall was taking trades based on technical signals, he found himself hoping trades would work. His unease with this feeling convinced him that technical trading was the wrong approach for him. In another instance, Sall placed maximum positions in three highly correlated markets on a marginal trade idea. When the risk manager queried him as to what he was doing, Sall suddenly realized that he was hoping his triple-size position would work. Recalling this experience, Sall said, “The second I realized that I was hoping and not trading anymore, I immediately liquidated everything.” If you are hoping a trade will work, you are gambling and not trading.

22. Don’t Trade Based on Someone Else’s Recommendations

You need to trade based on your own methodology and your own decisions. Trades based on someone else’s recommendation tend to end badly, even when the advice is correct. For example, Brandt lost money on a trade recommended by a floor trader for whom the trade worked very well. Brandt failed to appreciate the difference in holding periods between himself and the floor trader. Camillo’s most regretful trade was when he liquidated two-thirds of what ultimately proved to be an excellent position at a loss because he was influenced by conflicting market opinions.

23. Distinguish Between Trade Outcomes and Trade Decisions

Many traders erroneously evaluate their trading based solely on outcomes. When asked to recount his worst trade, ironically, Bargh immediately described a dual-position trade that resulted in only a small loss. In this particular trade, Bargh experienced a quick, large loss but couldn’t bring himself to liquidate the positions. He hesitated, and the trade partially recovered. Bargh used this pullback as an opportunity to liquidate his positions, exiting at only a moderate loss. Just after he liquidated, the market then moved violently against his original positions. Although Bargh’s initial inability to exit the losing trade worked to his benefit, he realized that he had made an enormous trading error but had just been lucky. If the market hadn’t experienced its short-lived pullback, his initial large loss could have turned into a disastrous one. Bargh was able to distinguish between the outcome—a smaller loss—and the decision—an inability to act that could have resulted in an account-threatening loss. The point is that sometimes winning trades (or smaller losing ones, as was the case here) may be bad trades. Similarly, losing trades could be good trades if the trader adhered to a methodology that, on balance, is profitable with reasonable risk control.

24. The Return/Risk Ratio of a Trade Is Dynamic

Dhaliwal makes the point that trades are dynamic, and traders need to adjust their exit strategy accordingly. If a trader establishes both a profit target and a stop when a trade is initiated, and the trade moves 80% of the way towards the target, the return/risk at that point will be very different from what it was when the trade was implemented. In such a situation, the original exit plan no longer makes sense. If a trade moves significantly in your favor, consider tightening your stop, or taking partial profits, or both. Brandt calls trades in which you have a profit and ride it all the way back to where you got in “popcorn trades.” He avoids popcorn trades by a combination of taking profits and tightening stops—an approach that recognizes and responds to the dynamic nature of trades.

25. Human Emotions Are Detrimental to Trading

Human emotions and impulses will often lead traders to do the wrong thing. As Brandt said, “I am my own worst enemy.” The next three sections detail different categories of emotion-based actions that adversely impact trading.

26. Guard Against Impulsive Trades

Impulsive trades are, by definition, emotional trades, and emotional trades tend to be losers. Beware of being enamored by an unplanned trade. Neumann’s biggest loss (in percentage terms) came early in his career when he deviated from a strategy that was generating consistent returns to impulsively buy a stock that was rising rapidly based on a bullish story. That single trade resulted in a 30% loss in one day.

27. Trades Motivated by Greed Usually End Badly

Greed will cause traders to take marginal trades, or place positions that are too large, or both. Bargh’s worst trading loss was a consequence of greed. In this particular instance, he initially took a large short position in the euro based on comments Mario Draghi made at a press conference. This initial position was entirely consistent with Bargh’s methodology. However, Bargh then took a large long position in the Bund—a position highly correlated to his original trade, but one that had no justification, since Draghi’s comments only pertained to the euro. Bargh admits that the doubling of his exposure by buying the Bund was entirely influenced by greed. Both positions then turned against Bargh. By the time he liquidated, Bargh was down 12% for the day—his worst daily loss ever—with most of the loss coming from the impulsively added long Bund position. Traders need to be aware when a trade they are about to take is motivated by greed rather than an application of their methodology. Such trades will usually end badly.

28. Beware of a Compulsion to Make Money Back in the Same Market

When traders, particularly novice traders, lose money in a market, there is a reflexive instinct to try to make it back in the same market. This impulse, perhaps driven by a desire to seek revenge or to expiate the prior trading loss, leads to emotion-induced trading, and emotion-based trades are particularly prone to bad outcomes. John Netto’s experience on March 17, 2003, when President Bush issued an ultimatum to Saddam Hussein to leave Iraq, provides a classic example of the danger of trying to recover a loss in the same market. Initially, Netto went short the S&P 500 when it opened lower that day, anticipating a further slide. The market abruptly reversed, stopping Netto out at a large, single-trade loss. Had he stopped there, it would just have been an ordinary bad day. But, like a dog with a bone, Netto kept shorting the market. By the end of the day, he had gone short and been stopped out five times, nearly quintupling his original loss and wiping out his profits for the year.

29. The Real Damage of a Bad Trade

Many traders fail to realize that the greatest damage from a bad trade is often not the loss on the trade itself but, rather, the lost profits on subsequent good trades not taken because of the destabilizing effect of the bad trade. The day after Bargh experienced his worst loss due to the greed-induced trade detailed in #27, the Bank of England switched to a hiking bias. It was precisely the type of event that provides Bargh with his best profit opportunities. However, Bargh was still too shaken up by his 12% loss the day before to pull the trigger on that trade. The market had the big move Bargh anticipated, but he was not in the trade. The lesson is that the cost of a trading mistake often substantially exceeds the direct loss on the trade taken—all the more reason to avoid trading mistakes (losses due to traders breaking their own rules).

30. Don’t Exit the Entire Position at the Profit Target

Frequently, market price moves will continue to extend well beyond a trader’s profit target. Therefore, instead of liquidating an entire position at a profit target, traders should consider holding onto a minor portion of the position with raised protective stops. In this way, they maintain the opportunity to profit significantly further if there is a longer-term move in the direction of the trade, while risking only a small surrender of profits if the market reverses. For example, Bargh will take profits when the market reaches his price target. However, after locking in his profits in the trade, he will routinely maintain 5%–10% of the position, which he may hold for a longer-term price move. In this way, he can add a few percent profit to a trade with minimal risk.

31. If You Are on the Right Side of Euphoria or Panic, Liquidate or Lighten Up

Parabolic price moves in either direction tend to end abruptly and sharply. If you are on the right side of such a trade, consider taking partial or total profits, while the market is moving near-vertically in your favor. Neumann’s exit of his Spongetech trade provides a perfect illustration of this principle.

32. Guard Against Complacency and Sloppy Trading after Big Winning Streaks

Traders often experience their worst performance after periods when they have done exceptionally well. Why? Because winning streaks lead to complacency, and complacency leads to sloppy trading. When their accounts are sailing to new highs almost daily, and virtually all their trades are working, traders will tend to become less diligent in executing their methodology and laxer in their risk management. Several of the traders interviewed had this precise experience of worst performance following best performance: Brandt’s first losing year after becoming a full-time trader occurred immediately following his best trading year ever. After a great first six months of trading, Sall fell into the complacency trap. In his own words: “I got cocky and relaxed with my discipline.” During this time, he placed limit positions in three highly correlated markets on a marginal trade—an action that could have resulted in a huge loss were it not for the firm’s risk manager’s quick intervention. When I asked Bargh about his underperformance during the first half of 2018, he explained, “I had a very good 2017 and came into 2018 with the mindset that I could push it. I was taking too much risk.” The moral is: If everything is going great, watch out!

33. The Flexibility to Change Your Opinion Is an Attribute, Not a Flaw

I find it ironic that some of Brandt’s Twitter followers criticize him for changing his market opinion—something he frequently does. That is such a wrong-headed perspective. The flexibility to change your market view is essential to succeeding as a trader. If you are rigid in your market stance, you only need to be wrong once to decimate your account. Brandt’s motto is: “strong opinions, weakly held.” The implication is that you should have firm conviction when you enter a trade, but you should be quick to abandon that position if the trade moves against you.

34. Missed Trades Can Be More Painful—and More Expensive—than Trading Losses

Missing a large profit opportunity can impact your trading profitability as much as multiple trading losses. And such a missed opportunity can be even more painful than a trading loss. Bargh missed a massive profit opportunity because he ran a bank errand during trading hours. One primary cause of missed trades is the destabilizing impact of bad trades (see #29).

35. What to Do When You Are Out of Sync with the Markets

When you are in a losing streak, and everything you do seems wrong, the best action may be to stop trading temporarily. Losses beget losses. Taking a break can act as a circuit breaker. Bargh says that when he feels destabilized by a trading experience, he will “take some time off, exercise, go out in nature, have fun.” Brandt has another answer about what to do when you are out of sync with the markets. He cuts his trading size—an action that will mitigate the drawdown during a negative period. Dhaliwal’s method of handling losing periods combines both the above approaches. If he is in a drawdown that exceeds 5%, he will cut his position in half. If the drawdown exceeds 8%, he will cut the position in half again. If the drawdown reaches 15%, he will take a complete break from trading. The underlying concept in all the above approaches is that if you are in a losing streak, you need to cut risk—either by stopping trading altogether or by reducing position size.

36. Counter-to-Expected Market Reactions to News

A counter-to-expected market response to news can be a very valuable trade signal. This concept came up repeatedly in the trader interviews. Some examples: Dhaliwal recounted a short Australian dollar trade where his fundamental view coincided with a downside chart breakout. An unemployment report was released that day, and all the statistics were extremely bullish. Initially, the market rallied as expected. But then the rally fizzled, and prices moved below the low of a long-term trading range. The combination of a highly bullish report and a very bearish market response convinced Dhaliwal that the market would move sharply lower, which it did. Brandt’s worst loss occurred in one of the most extreme examples of a counter-to-expected market response. Brandt was long crude oil at the start of the First Gulf War with the news of the war’s beginning hitting after the market close. Crude traded $2–$3 higher that night on the Kerb (an after-hours market in London). But the next morning, crude oil opened $7 below the New York close—a $10 swing from its nighttime levels. This extreme bearish response to bullish news served as a longer-term bearish signal. Netto’s repeated losses in selling the S&P 500 on the day President Bush issued an ultimatum to Saddam Hussein to step down (detailed in #28) were a consequence of his failure to recognize the significance of the market’s counter-to-expected response to the news. Kean ignored classic counter-to-expected price action in his largest holding, JD.com. After an announcement of a deal with Google, JD.com initially rallied but then reversed, closing sharply lower. Kean held onto his position despite this ominous price action, and the stock lost more than half its value in the ensuing months. Commenting on this experience, Kean said, “The worst mistake was ignoring that day’s price action. As someone who trades for a living, I should have known better.” On election night 2016, as the returns started indicating a surprise Trump victory, stock indexes sold off, as was anticipated in such an event. But then, even though a Trump win became increasingly likely, the market reversed sharply to the upside. This counter-to-expected price action marked the start of a 14-month steady climb in stock prices.

37. Being Profitable Versus Being Right

Ego and the need to be right are detrimental to effective trading. Many traders are more invested in their market theories and prognostications being right than they are in being profitable, which is all that matters. As Dhaliwal succinctly put it, “it’s not about being right; it’s about making money.”

38. Aiming for Consistent Profitability Can Be Counterproductive

Consistent profitability may sound like a worthwhile goal, but it can actually be counterproductive. Trade opportunities are sporadic, and aiming for consistent profitability in low-opportunity periods can lead to taking marginal trades that end up being net losers. Although Bargh was urged by his bosses to strive for consistency, he resisted this advice, sensing it was incompatible with the way he traded. “I never really thought that is how trading worked,” he said. “It’s more like you make nothing for a while, then you have a spurt.” As a strikingly ironic observation, Sall noted that a common trait he observed among traders who failed is that they had a goal of making money every month.

39. Be Observant and Highly Attuned to New Behavioral Trends

Spotting emerging trends, both in your everyday life and in social media, can be a source for uncovering trading opportunities. Detecting consumer and cultural trends early is a critical component of the strategy employed by two of the traders in this book: Camillo and Neumann. For example, Camillo identified trades such as Cheesecake Factory and P. F. Chang’s by observing Middle America’s reaction to these chains—a response he knew Wall Street would be blind to. Many of Neumann’s best trades involved catching trends, such as 3D printing and CBD products, early.

40. Trading Systems Sometimes Stop Working

As Parker repeatedly experienced during his career, systems can work for a time but then entirely lose their edge, or even become consistent net losers. This inconvenient fact implies that the ability to terminate or radically change systems is essential to longer-term success as a systematic trader. Parker now employs a system stop. He uses trend-following applied to a system’s equity curve to signal when a system should be deactivated. Specifically, Parker will stop trading a system if its equity curve falls below its 200-day moving average.

41. Trading for a Living Is Hard

As Brandt notes, “The markets are not an annuity.” As one indication of how difficult trading for a living is, Parker almost quit trading in early 2016, only eight months after having set new highs in cumulative profits and despite still being more than $5 million ahead. Aspirants to trading for a living need to keep in mind that it is not sufficient for cumulative profits to continue rising. Cumulative profits need to continually increase by more than the sum of taxes and cumulative withdrawals for living expenses. Another complicating factor is that trading profitability is inherently sporadic, while living expenses are continual. In recognition of these real-life considerations, Parker advises those seeking to trade for a living to keep their day job as long as feasible.

42. Work Commitment

Although many people are drawn to trading because they think it is an easy way to make a lot of money, ironically, traders who excel tend to have a very strong work commitment. Krejčí provides a good example of this strong work ethic. To develop his trading methodology, Krejčí had to put in 16-hour days between his day job and market research. Krejčí’s methodology results in virtually no trading opportunities in five months of the year. Although he could just take those five months off, he will still devote full-time to the markets in those months, using the trading downtime to continue his market research. As another example (but by no means the only other one), Sall believes his work ethic was essential to his success. He recalls putting in 15- to 18-hour days in his early years. “I am willing to outwork everyone else,” he says.

43. Take Responsibility for Your Own Results

Krejčí chose trading as a career path because he sought an endeavor in which he would be responsible for his success or failure. This innate perspective is a characteristic of winning traders. Successful traders take responsibility for their own mistakes and losses. Losing traders invariably will blame their outcome on someone or something else.

44. The Two Sides of Patience

Markets will tend to reward traits that are difficult to maintain. Patience is hard. It requires overcoming our natural instincts and desires. It is a trait I have repeatedly found in great traders. There are two aspects of patience that are critical to market success. Patience to wait for the right trade—Trading opportunities are sporadic. Most traders will find it difficult to wait for trades that fit their criteria for attractive opportunities and will give in to the temptation of taking marginal trades in between. Taking such suboptimal trades will have two negative consequences. First, they will tend to result in losses on balance. Second, they will dilute attention away from true trade opportunities. Even worse, the destabilizing impact of a suboptimal trade that results in a large loss could cause a trader to miss a major profit opportunity. See, for example, Bargh’s missed trade described in #29. Sall is the epitome of a trader who has the patience to wait for the right trade as is succinctly reflected by his self-description: “My style has often been referred to that of a sniper. I am in a constant state of readiness waiting for that perfect shot.” Sall maintains that executing his most profitable trades was the easy part. The difficult part was waiting for the optimal profit opportunities and avoiding marginal trades that, in his words, “waste mental and financial capital.” Patience to stay with a good trade—Patience is also required to stay with good trades. When a trade is profitable, it is tempting to liquidate the position prematurely out of fear that the market might take those open profits away. Shapiro learned the power of patience in staying with a good trade when circumstances involuntarily forced him into this favorable trait. At the time, he was taking a multi-week vacation in Africa, and he knew the unavailability of communication facilities would make it impossible to check on or trade the markets. Shapiro provided his broker with stop-loss instructions and didn’t see his account again until he returned. He discovered that he made far more money by being away on vacation than he ever made actively trading his account. This lesson stuck, as the methodology he eventually developed allowed for staying with positions for months if warranted by the relevant conditions.

45. The Internal Game of Trading

Sall believes, “Your state of mind is the most critical factor to trading success once you have your methodology down.” For Sall, the right mindset requires being calm and focused. He will mentally prepare for an anticipated trading event by using breathwork and meditation to achieve what he calls a “deep now” state. Through keeping a journal and charting the connection between emotions and losses, Sall has learned the importance of shifting any negative mindset and identifying emotions that could cause him to self-sabotage trades. Bargh credits Sall with helping him appreciate that having a good mindset was critical to trading well. Similar to Sall, Bargh seeks to trade from a calm state free of any inner conflict. He maintains a daily spreadsheet that monitors a variety of emotional factors (e.g., ego, fear of missing out, happiness rating, etc.) alongside with trading actions. Bargh uses his feelings as an input to his trading. If Bargh feels his emotional state is not conducive to good trading, he will take a break until his mindset is back in the right place. Bargh says, “Mental capital is the most critical aspect of trading. What matters most is how you respond when you make a mistake, miss a trade, or take a significant loss. If you respond poorly, you will just make more mistakes.”

46. Successful Traders Love What They Do

Reading these interviews, you should have been struck by how many of the traders talked about their love of trading. Some examples: Dhaliwal used a gamelike analogy to describe trading: “To me, playing the markets is like a never-ending chess game. It’s the most exciting game you can play.” Camillo described the joy he finds in identifying trade ideas: “The four hours I spend every night doing my analysis is something that I love. I never know when I’m going to hit on that thing that will take me down the path to my next big trade. It’s the same feeling I had as a kid going to garage sales.” Netto explained his success, saying, “I am successful because Monday is my favorite day of the week. When you love what you do, you’re going to be successful.” Shapiro went through depression during a period when he stopped trading, even though everything in his personal life seemed to be going well. When I asked Shapiro how he finally figured out what was causing his depression, he replied, “It was obvious. I loved trading.” Sall recalled the origin of his passion for trading: “[The University of Reading] had a simulated trading room, which was my first exposure to markets and trading, and I fell in love with it.” Kean explained why a love of trading is an essential trait for a trader: “You need to love trading so that you can get through the tough times.” Brandt’s reaction upon first seeing the traders in the commodity pits was, “Whoa! I want to do this.” Brandt’s passion for trading also comes across in his description of his early days when he had a virtual compulsion to trade—an enthusiasm that lasted for well over a decade. His love of trading eventually faded, and after 14 years, he abandoned his trading career. Speaking of that time, he says, “The fun of trading had left me at that point. Trading had become drudgery.” After an 11-year hiatus, the compulsion to trade returned, leading to a second successful trading career, 13 years and counting.

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