Francis James Chan’s The Prop Trader’s Chronicles: Short-Term Proprietary Trading Strategies for Both Bull and Bear Markets (Wiley, 2013) is a strange little book. It is in part a memoir that, quite frankly, isn’t very interesting and that often is not even tangential to trading. Do we really care about the dinner table fights of his ex-fiancée’s family?
Fortunately, in larger part it is an account of Chan’s experiences as a novice day trader with what was then a Toronto-based prop firm, Swift Trade Securities. There he learned to throw away charts and abandon technical analysis. Swift taught and practiced the art of reading the tape and depth of market. The firm also stressed how to route trades to capture the most advantageous fee structure. Since Swift’s forte was high-volume scalping of NYSE stocks for pennies, risk management was critical. Trainees were expected to limit their losses to around two cents a share—at least on a stock like GE (then about $40), which Chan was trading.
Although Chan describes some of the basics of Swift’s program and tries to illustrate the trading process, I suspect that it is the rare reader who would come away with a viable way to emulate a non-automated, high-frequency, high-volume stock scalping game plan. Especially if the reader is a lone wolf, not part of a prop firm.
There are, however, two more general points that Chan makes that I think are worth repeating. The first is the distinction between hard and soft edges. A hard edge “is typically transient but allows traders who are equipped to exploit it to do so with minimal skill, discipline, or experience.” With soft edges “skill, discipline, and experience is a much more significant deciding factor in one’s net profitability.” (p. 75) A generation of traders at Swift exploited a weakness in dark pool algorithms. “The strategy could be summed up with its main premise: to seek out large orders resting in the dark pool systems and to play the market against the large institutions that entered those orders.” (p. 73) These traders had a hard edge. Hard edges “would actually not be illegal but are often on the very edge of the cliff of compliance. In other words, they might be outlawed or circumvented within a few years.” (p. 80)
The core strategies of most traders rely on soft edges. “Since the real mathematical advantage behind such an edge is rarely more than 1 to 5 percent above a raw 50-50 bet, a very large dose of discipline, consistency, and skill should be developed to properly exploit these soft edges.” (p. 80)
Chan believes in exploiting transient soft edges. These edges may not be statistically robust over years of data, but “money is money.” “As long as such a strategy is not overemphasized in your mind to the point where you consider it your staple trading strategy, there’s really nothing wrong with collecting short term paychecks for something that may not last much longer than a few months.” (p. 81)
Chan offers a few building blocks of trading strategies, among them layered position sizing. He writes: “Depending on the nature of your strategy, the idea of a single entry and a single exit can either be slightly inefficient or outright idiotic.” For scalpers, “splitting up your entries and exits into smaller orders makes a lot of sense simply because it’s unlikely that the stock will stand in place for long and there’s a lot more room to take extra profits by scaling in and out rather than making a flat single-entry single-exit bet.” (pp. 135-36)
For those who are thinking about hooking up with a prop shop or who are interested in tape reading, The Prop Trader’s Chronicles should probably be a core library holding. For other traders it’s a peripheral book but nonetheless worthy of a couple of hours of reading time.