When things that “should’ happen, don’t happen
Reminiscence of a stock operator by Larry Livingston
He described when Jesse Livermore loses his money, and basically goes bankrupt, he comes back and he can only trade on thing at one time and he has to be right, if he is wrong is basically completely done.
If he is right he gets a bigger trade line , if you kind of think about it it is , I would take a great trade, back in the beginning, I will superbly making sure that everything is lining up.
To be completely having your game plan, and have the discipline, to survive you have to have the absolute game plan, making sure it meets all your trade criteria before you put on the trade.
We might have traded a thousand options a day, it was so extreme, and the price of SPX should have gone up, everybody was increasing their implied volatility . The market at this time at this time were fairly crazy, and they were using the options markets to hedge their bets, and a real theme was starting to occur, the thing they way I think about it , when things that should happen , do not happen, there is so much noise in the trading floor, you will just hear noise, and in that, some of that is valuable information.
It’s kinda like today, there is so much information coming in, the best traders can figure out what is real information and what true information is. And the true information is what we are looking to achieve, what we are looking to model.
So we were down in our positions, and a bunch of traders are coming in to buy calls, and the price of orange juice should have gone up, at that time we were doing call options, and they guys that were on the pits had to buy futures, a hedge their bets.
Two days later, the futures price did not move at all, that piece of information was so valuable. And we see it today, we see a couple of weeks ago, they were buying calls on SBUX, but it didn’t move, two weeks later, it price of SBUX dropped 20%
Those were traders putting on real money, on call options, but it didn’t move the way it should’ve moved, and that’s real information. If you think about it, looking at the markets we have seen towards end of 2017 when Trump got elected, everybody said the markets should be down big , but when it didn’t, that’s information, so its every single day, asking yourself, what should happen, and what did happen. And if you start to think along those lines, you start to see whats working, and what doesnt, and that’s where you can start to model,
This is not backtesting but this is actual market information. So basically , the smart money started coming in, so they want to short the futures, and god forbid protect them when they were wrong, when the calls will basically stop them out, and for every calls they bought they would sell the futures, so the futures were not moving up .
So the NIO example was a good one, because they were buying thousands of calls , but they were shorting the stock. And they could be shorting the stock for any slew of reason, there is a probability that that can be smart money.
And that’s opportunity, that’s where opportunity to make substantial money lie. When something shouldn’t happen, don’t happen.
You need to have a point where you know you gonna be out when you are wrong, when you have information that you start to learn how to weigh the probability. When you can weigh that probability you can start to weight the trade size
They only way to weigh probability is when you can go back and weigh as many cases and look for pattern. Why is something happening, why are the smart money piling, you have to ask yourself the why
The most important thing, is to know when to
Structure the trade, that no one trade is going to hurt you, and when you know you have 60% probability or 65% probability and when you put out 50 of those trades
So when trump won, the markets should have gone down, but they don’t happen, so that’s information, so you can absolutely take that and make it work in your favor.
We have taken quote on quote edge, or alpha, and we have built portfolios every single day, on long and short, and there a reason why , why those stocks go up or down, so its balanced, so its all based on short term fundamentals that we know we can quantify, and we can go back in 5 years or 10 years, and why a fundamental move can change, and today we keep our portfolio in basically 5 days. We approximately hold 80-100 longs and 80-100 shorts.
Stocks trade very much like commodities today, and out of 1,000 stocks, and our computer go though a thousand data points.
The advantage of a long short portfolio is that, we have seen so many cases , we knew if we could apply what works on the trading floor, it could be really really interesting.
Instead of trading just one market, you can trade a thousand of markets. The reasons why brokers are in there, there is a catalyst there, we have a positive expectancy on the trade, now not every trade is going to be a winner, and mathematically quantify , over a time we gonna expect how much we gonna make, it all comes back to how the market crashed in 2008, and I was hooked,
I will always trying to learn, I think I have that personality, I just don’t stop,
The reality is that, human nature is not changing, fear and greed will always be there. It funny because the things that work will continue to work because the premise is there.
That still happens today, you can adjust to that, the markets always change, but the markets always stay the same. The most successful traders, always ask why is it going up, for one day there is always be more buyers than sellers. It all comes back to human nature, fear and greed, it never changes.
It all comes down to observations, on what works and what doesnt.
We trade on a 5% margin , and we borrow the money. There will a mathematical advantage of diversification . Dynamic diversification that allows you to use leverage but not what people think about leverage. You spread your leverage, you spread your probabilities, and that allows you to gain a mathematical edge.
The first thing we look at is fundamentals, to be good at this, you gonna cut your losses. We cut your losses and let the winners run. You are always betting, so you know you can make a probability assessment, and you know how much of your money you can risk per trade.
It’s almost like running a casino, and you are playing for the long run. Because you know your edge, and you know how its based, you look at it a hundred times and you get a pretty good idea.
Once you know the major fundamentals of the markets, what makes the price, how aggressive the buyers are and the sellers. The price is made by the mass investor. I can be a smart investor, an average investor, its all about the price. It’s what people at that point of time willing to pay for that. You can see what the price react.
How do we determine the odds on a given day. The automation keeps me on track, I have to teach myself very early on my trading life. I have to have a clear where to place a stop, how to get out, and asking questions like
When you sit on the table, don’t count your winnings. If you are a good speculator, you know exactly what every dollar means to you, against how much capital you are managing.
Smart bets and observable facts. Most people think there are good bets and there are bad bets. There are good bets where you are making a lot of money and the odds are in your favor. There are bad bets where you lose a lot of money and it takes you out of the business. So that makes you from a casino operator to a punter.
So good bets, you have the odds, doesnt mean you win, but over the long term you know the expected outcome. If I did this bet a thousand times, and I would come out as a winner. So the bottomline is, you become a punter to becoming the house.
About observable facts. In 30days is it making a new high, its not a story, its not telling me whats going to happen, its an observable fact, when two ordinary people observe it can tell the fact, its number.
What is the most important thing when it comes to trading system. A trading system can be an edge, you don’t get an edge unless you have a trading system. You have to get the odds in your edge, if you are flipping coins, the odds are not on your side, and you always gotta ask yourself, what is the expected value, what is the expected outcome if you do a hundred times. So is it a very good bet, it gives me a high return and the odds are , you can make a lot of money on possibly a small handful of trades but you lose a little.
I always figure out what the loss can be, and I’m totally indifferent to what happens to the stock market, I would rather win, than lose, I could really really be the house.
I always go and look at my core capital. I don’t break those rules, I make money by staying alive,
One part is position sizing. I go from where I am and where my stop can be, divided by my total capital. It is simple, but simple has a very bad reputation. I don’t want something very complicated, when i met one of a successful hedge fund manager, you said to me” this is a positive mean” game, at first i didn’t understand, then he explained, when you averaged it out, it works.
What about drawdowns, in part of being a trader, you will experience a drawdown, i always have a vision, when we had about $10 mil. And we owed $7 mil. Minus the amount that we didn’t have and it was a highly leveraged account.
When you’re up against the wall, when you’re not accepting defeat, you go on.
Do I regret with all the trading mistakes I made throughout the years?
Not trying is a bigger regret in life, if you don’t try mathematically you can 0% probability of winning, if you put out a trade and learn what works and what doesn’t you doubled you chance of making money.
I don’t care what knowledge you have, you must cut losses, the next thing you need to do is add on to your winners.
You apply it to a bad job, a bad career move, a bad business.