Quotes on Psychology

The most important single factor in shaping security markets is public psychology. – Gerald Loeb

Wall Street never changes. The pockets change, the suckers change, the stocks change, but Wall Street never changes because human nature never changes. – Jesse Livermore

There is nothing more important than your emotional balance. – Jesse Livermore

There are styles in securities as there are in clothes. A security may be undervalued, but if it is also out of style it is of little interest to the speculator. He is, therefore, compelled to study the psychology of the stock market as well as the elements of real value. – Phil Carret

When events have thinking participants, the subject matter is no longer confined to facts but also includes the participants’ perceptions.  The chain of causation does not lead directly from fact to fact but from fact to perception and from perception to fact. – George Soros

Trading Opportunities Through Analyzing Baseball

If you got Pennington to find any valuable info when you asked him to develop quantitative analogies between forest life cycles and those of corporations to find some profitable trades you could certainly do the same in finding some numerical formula that could identify trade opportunities by analyzing baseball.

Each team– a stock, the aggregate teams– the market, each player– a corporate division, each salary– an investment made in the division and the company, each relevant performance statistic– a relevant performance statistic. Identify the right decision mix that makes teams perform better over time and improve over time and analyze similarities in companies doing the same.

The greatest liability is  also the greatest asset– human decision and performance permeate the game of baseball from start to finish and one could question whether it’s possible to find a truly consistent system as a result. I would argue that this complexity makes it a perfect analogy to market/company performance. It moves based on imbedded and sometimes unexplainable intellect and experience of its participants. The chaotic human decision making process is pervasive in both.

Trade to win

“If a betting game among a certain number of participants is played long enough, eventually one player will have all the money. If there is any skill involved, it will accelerate the process of concentrating all the stakes in a few hands. Something like this happens in the market. There is a persistent overall tendency for equity to flow from the many to the few. In the long run, the majority loses. The implication for the trader is that to win you have to act like the minority. If you bring normal human habits and tendencies to trading, you’ll gravitate toward the majority and inevitably lose.”

Bull Markets Roll, Bear Markets Spike

bullbear-ASRThere is an old trader’s saying that “bull markets roll, but bear markets spike.” This comes from the characteristic nature of the price action.

When a market is in bull mode, the majority of participants are happy and content (as the vast majority of investors are “long only”). The bull market thus “rolls” along, like undulating waves of grain, as more bullish investment capital flows into the market and positions are added to.

When a market is in bear mode, however, the majority of participants are annoyed or upset (because, again, those willing to go short are relatively few, while all the world is comfortable being long). The result is much more of a rough, jagged, against-the-grain type profile, in which extended declines are interspersed with surprisingly vicious rallies of short duration.

These mini-rallies are made even more vicious by the forced activity of “short covering,” in which bearish traders caught napping get “squeezed” out of their positions by the fighting spirit of the bulls.

Lying in wait at the top of a salmon-rich waterfall, then, is akin to waiting for that “spike” to occur before putting out a new bearish line. How do you identify such an occurrence? Simple:

  • Wait for your intended market to confirm a new downtrend (or break key support).
  • Wait for a countertrend rally – one that takes prices higher, but does not “clear” the bearish trend.
  • Enter upon reasonable evidence that the countertrend rally (or spike) has run its course.

4 Types of Traders

The first type of profitable discretionary trader is the one who has a natural feel for the market.  When you talk to one of these traders and ask them about their trading at some point you’ll hear them say something about ‘feeling the market was this way or that….’. These are traders who over the years have acquired a lot of implicit knowledge of the market and its participants. They understand what moves markets and they also have the required self-trust to act on their ideas and to protect themselves when they are wrong.  Their personalities allow them to have the self-trust to know their limits and believe in their capabilities. We could call them a ‘natural born trader’; and there are very few of them. Although Jesse Livermore eventually blew-out, he’s an example of this rare type of natural trader.

 The second type of profitable trader – or more accurately temporarily profitable – is the lucky trader; the trader who’s P&L is currently in an up swing but they’ll soon be negative. Often these traders either got lucky with a number of trades and can not replicate it, or they learned the habit of holding onto losing trades and they got lucky when those positions came back. This accounts for the largest number of “profitable traders” – but for these traders the money often leaves faster than it arrived. (more…)

Ten Principles of Short-Term Trading

1) Strength Begets Strength – A market rise that expands the number of stocks making new highs and that finds more stocks trading with strong upside momentum tends to persist in the short run.

2) Weak Rises Tend to Reverse – When markets move higher with fewer stocks making new highs and with fewer stocks showing strong momentum, the rise tends to reverse in the short run, often entering a trading range prior to making an extended decline.

3) Broadly Weak Markets Tend to Reverse – When the market is very weak (many stocks making new lows and many stocks displaying strong downside momentum), it is common to see the market make marginal new lows in the short run, but reverse after that.
4) Weak Tests of Prior Market Highs or Lows Tend to Reverse – When we get a market trading above or below its value area on low volume, few stocks making fresh new highs/lows, and weak momentum, we tend to get a “mean reversion”–a trade back into the value area. That’s basically what this week’s action has been about.

5) Strong Tests of Prior Market Highs or Lows Tend to Persist – When we see expanding volume and expanding new highs or lows on a move above or below the value area, such a breakout move tends to becoming a short-term trend. The longer the prior consolidation period (the heavier the volume within the value area), the more extended the subsequent trend tends to be.

6) Weak Pullbacks Following a Strong Move Will Reverse – When we have a strong market move that expands new highs/lows and momentum, a pullback on weak volume and with relatively few stocks participating will lead to at least a test of the impulse highs or lows and often to a resumption of the strong move.

Ten word investment philosophies

Every writer knows that trying to express an idea in the fewest number of words is one of the hardest tasks.  That is, in part, why there are editors.  There is a legend that Ernest Hemingwaywon a bet by writing a six word short story:

For sale. Baby shoes. Never worn.

The folks at Snopes are skeptical of this legend, but the fact remains that the six word story is a compelling one, Hemingway or not.

Jason Zweig writing at Total Return asked a number of investment professionals to do something similar when it comes to expressing their investment philosophy in ten words or less.  One might think that ten words would be too much of a constraint, but the participants did compelling work.  Zweig wrote this:

Anything is possible, and the unexpected is inevitable. Proceed accordingly.

We also liked Elroy Dimson’s contribution as well:

Risk means more things can happen than will happen. (more…)


1. Forget the news, remember the chart. No one is smart enough to know how news will affect price in every case.  The chart already knows the news is coming.

2. Execute positions based on numbers, time, and volume, not emotions.  This discipline forces the trader to distance himself from reckless gambling behavior. 

3. Remember that participants in the markets echo similar patterns over and over again based on the infallible rules of human behavior allowing the trader to take advantage of potentially profitable trades while minimizing losses

Market Promises

This is not going to endure me to my fellow traders but I think it is important that we all are reminded what the market promises us.I am not talking from my gold and diamond encrusted throne. I am not exactly killing it. I am not perfect; I do not make money every trade or every day. This is a reminder to me, more than a reminder to you.

Market Promises:

It promises a playing field, not the game.
It promises to reward risk, not proportionately.
It promises opportunity, it does not promise profits.
It promises a lesson, not learning.
It promises that the quality of indicators and analysis is proportionate to quantity of participants, not quality.

Once again I am not without my struggles; this market is not easy for me or anyone I talk to regularly. I have had to make changes that I did not want to make. I thought once 2008 happened it would always be like that. It has been a rude awakening. Is there something I missed? Let me know.

Fear of Loss — How the unconscious mind detects danger before the conscious mind does

A card game — The subjects in the study played a gambling game with decks of cards. Each person received $2,000 of pretend money. They were told that the goal was to lose as little of the $2,000 as possible, and to try to make as much over the $2000 as possible. There were four decks of cards on the table. The participant turned over a card from any of the four decks, one card at a time. They continued turning over a card from the deck of their choice until the experimenter told them to stop. They didn’t know when the game would end. The participant was told that every time they turned over a card, they earned money. They were also told that sometimes when they turned over a card, they  earned money but also lost money (by paying it to the experimenter). (more…)

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