Earlier I wrote about interval training for the brain, an idea developed by Loehr and Schwartz in The Power of Full Engagement. Today’s topic also comes from their book.
Rituals, as the authors define them, are routines that are more or less automatic and relatively effortless; we feel worse if we don’t do them. Some examples of rituals are brushing your teeth, taking a shower, kissing your spouse goodbye in the morning, calling your parents on the weekend.
The sustaining power of rituals, Loehr and Schwartz claim, “comes from the fact that they conserve energy.” The authors quote A. N. Whitehead, who wrote in 1911: “We should not cultivate the habit of thinking of what we are doing. The precise opposite is the case. Civilization advances by extending the number of operations which we can perform without thinking about them.” (p. 169)
“Since will and discipline,” the authors continue, “are far more limited and precious resources than most of us realize, they must be called upon very selectively. Because even small acts of self-control use up this limited reservoir, consciously using this energy for one activity means it will be less available for the next one. The sobering truth is that we have the capacity for very few conscious acts of self-control in a day.”
If the authors are correct, discretionary traders face a daily uphill battle that they can win only by ritualizing as much of their routine as possible.
Monday, February 8, 2010
Saturday, February 6, 2010
Weekend listening/reading
Ed Thorp is best known to the world at large as the author of Beat the Dealer: A Winning Strategy for the Game of Twenty-One (1966). He then took his skills to Wall Street and became one of the earliest quants. His story is among those told in Scott Patterson’s new book The Quants: How a New Breed of Math Whizzes Conquered Wall Street and Nearly Destroyed It. I haven’t read the book, but Terry Gross interviewed both Thorp and Patterson recently on her NPR program Fresh Air. "The Quants": It Pays to Know Your Wall Street Math runs about half an hour. It’s definitely worth a listen; it doesn’t tax the brain. Also note that on the page I’ve linked to there is an excerpt from the book.
If you’ve never read 18 Trading Champions Share Their Keys to Top Trading Profits (1996) it’s available for free download on Scribd. The book is very short—one page per trader. But it features many of the best-known technical traders, among them George Angell, Walter Bressert, Tom DeMark, Cynthia Kase, George Lane, Linda Bradford Raschke, and Larry Williams.
From Advisor Perspectives comes a little piece by Tom Brakke entitled “Thinking about Doing.” It expands on a statement by Ryan St. Onge, the freestyle aerialist, in a recent New York Times article: “I probably spend 80 percent of my time thinking about it, and 20 percent doing it.”
Finally, speaking of The New York Times, here’s another science section article “Abstract Thoughts? The Body Takes Them Literally” that may not have obvious connections to trading, but then again who knows?
If you’ve never read 18 Trading Champions Share Their Keys to Top Trading Profits (1996) it’s available for free download on Scribd. The book is very short—one page per trader. But it features many of the best-known technical traders, among them George Angell, Walter Bressert, Tom DeMark, Cynthia Kase, George Lane, Linda Bradford Raschke, and Larry Williams.
From Advisor Perspectives comes a little piece by Tom Brakke entitled “Thinking about Doing.” It expands on a statement by Ryan St. Onge, the freestyle aerialist, in a recent New York Times article: “I probably spend 80 percent of my time thinking about it, and 20 percent doing it.”
Finally, speaking of The New York Times, here’s another science section article “Abstract Thoughts? The Body Takes Them Literally” that may not have obvious connections to trading, but then again who knows?
Friday, February 5, 2010
Interval training for the brain
I’m a believer in interval training, not that I have ever seriously trained for anything physical. No marathon on my c.v. At least I incorporate it into my daily exercise routine.
Jim Loehr and Tony Schwartz, in The Power of Full Engagement: Managing Energy, Not Time, Is the Key to High Performance and Personal Renewal (The Free Press, 2003) extend the principle of interval training to mental tasks. Their basic hypothesis is simple: people need to cycle their mental efforts to achieve a balance between expending and recovering energy. Grinding is a death knell.
Loehr and Schwartz are writing primarily for the business community; they offer a “corporate athlete full-engagement training system.” But it’s easy enough to extrapolate their guiding premise to the trading world. The crux of the matter is that “thinking uses up a great deal of energy. The brain represents just 2 percent of the body’s weight, but requires almost 25 percent of its oxygen. The consequences of insufficient mental recovery range from increased mistakes of judgment and execution to lower creativity and a failure to take reasonable account of risks. The key to mental recovery is to give the conscious, thinking mind intermittent rest.” (p. 96)
The intraday trader is particularly vulnerable to the downside effects of not taking mental breaks. Staring at a screen all day, afraid that to turn away for even a few minutes will mean lost riches is in fact, according to the authors, a prescription for diminished performance. If your eyes start to glaze over, are you really at the top of your game? Better to take a break—whatever type of break works best for you.
If you’re the type of person who returns to the screen only to realize that you missed the perfect setup, keep a log of all these “lost” opportunities. I suspect you’ll find one of two things. Either you are overestimating the number of times the market came knocking at your door when you were away. Or you are avoiding good trades by taking breaks just as they are about to set up. If you’re not at your screen you don’t have to be afraid to trade. A log should make the difference clear.
Jim Loehr and Tony Schwartz, in The Power of Full Engagement: Managing Energy, Not Time, Is the Key to High Performance and Personal Renewal (The Free Press, 2003) extend the principle of interval training to mental tasks. Their basic hypothesis is simple: people need to cycle their mental efforts to achieve a balance between expending and recovering energy. Grinding is a death knell.
Loehr and Schwartz are writing primarily for the business community; they offer a “corporate athlete full-engagement training system.” But it’s easy enough to extrapolate their guiding premise to the trading world. The crux of the matter is that “thinking uses up a great deal of energy. The brain represents just 2 percent of the body’s weight, but requires almost 25 percent of its oxygen. The consequences of insufficient mental recovery range from increased mistakes of judgment and execution to lower creativity and a failure to take reasonable account of risks. The key to mental recovery is to give the conscious, thinking mind intermittent rest.” (p. 96)
The intraday trader is particularly vulnerable to the downside effects of not taking mental breaks. Staring at a screen all day, afraid that to turn away for even a few minutes will mean lost riches is in fact, according to the authors, a prescription for diminished performance. If your eyes start to glaze over, are you really at the top of your game? Better to take a break—whatever type of break works best for you.
If you’re the type of person who returns to the screen only to realize that you missed the perfect setup, keep a log of all these “lost” opportunities. I suspect you’ll find one of two things. Either you are overestimating the number of times the market came knocking at your door when you were away. Or you are avoiding good trades by taking breaks just as they are about to set up. If you’re not at your screen you don’t have to be afraid to trade. A log should make the difference clear.
Thursday, February 4, 2010
Picerno, Dynamic Asset Allocation
There is no thornier problem for the investor than portfolio design and management. James Picerno, a financial journalist, tackles this problem in Dynamic Asset Allocation: Modern Portfolio Theory Updated for the Smart Investor (Bloomberg Press, 2010). He surveys the background and evolution of modern portfolio theory, analyzes the efficient market hypothesis, studies alternative rebalancing methodologies, and assesses tactical asset allocation. As he says more than once, there is no silver bullet, but Picerno offers the investor some guidelines.
For many investors who have learned the lessons of diversification asset allocation involves nothing more than combining three or four asset classes (choosing from, for instance, stocks, bonds, commodities, real estate, and cash) in ratios determined by the investor’s age or risk tolerance and rebalancing once every year or so. There’s nothing wrong with this strategy; it imposes discipline on the investor, tends to smooth out the ride, and can be tax efficient.
Picerno, however, suggests that the investor need not be purely reactive but can also look ahead using tactical asset allocation. As anybody who has tried this knows, it’s hard to peer into the future. But there are tools at the disposal of the “smart investor,” among them dividend yield, P/E ratios, price momentum, volatility, and correlation.
Is tactical asset allocation a viable portfolio management strategy for everyone? Picerno answers with an unequivocal “no.” He views TAA as essentially a mean-reverting, buy low sell high strategy; the investors most likely to embrace TAA are those who focus on the long term and assume that “prospective return varies inversely with recent market trends.” (p. 181) As Robert Arnott wrote, “tactical asset allocation potentially enhances long-term returns without increasing portfolio risk, but at a cost of lower comfort, hence lower utility, for many investors.” TAA is for those who can buy when there’s blood in the streets and sell when everyone else is drunk with investing success.
Personally I think Picerno frames TAA too narrowly; it is not the sole property of the value investor. For instance, anyone with a tax-free account such as a Roth IRA who pays low commissions can easily pursue a range of strategies, some of which might involve holding periods of days or weeks, not months or years. Yes, it requires more active management, but it doesn’t mean giving up one’s day job. Sometimes it even beats buy and hold!
In this book Picerno offers a little something for everyone. He summarizes an array of financial literature without becoming technical or mathematical, he outlines ways to tweak common portfolio management strategies, he points the way toward the future of asset allocation, and throughout he respects the personality and risk profile of the individual investor—hence the need for customized solutions.
For many investors who have learned the lessons of diversification asset allocation involves nothing more than combining three or four asset classes (choosing from, for instance, stocks, bonds, commodities, real estate, and cash) in ratios determined by the investor’s age or risk tolerance and rebalancing once every year or so. There’s nothing wrong with this strategy; it imposes discipline on the investor, tends to smooth out the ride, and can be tax efficient.
Picerno, however, suggests that the investor need not be purely reactive but can also look ahead using tactical asset allocation. As anybody who has tried this knows, it’s hard to peer into the future. But there are tools at the disposal of the “smart investor,” among them dividend yield, P/E ratios, price momentum, volatility, and correlation.
Is tactical asset allocation a viable portfolio management strategy for everyone? Picerno answers with an unequivocal “no.” He views TAA as essentially a mean-reverting, buy low sell high strategy; the investors most likely to embrace TAA are those who focus on the long term and assume that “prospective return varies inversely with recent market trends.” (p. 181) As Robert Arnott wrote, “tactical asset allocation potentially enhances long-term returns without increasing portfolio risk, but at a cost of lower comfort, hence lower utility, for many investors.” TAA is for those who can buy when there’s blood in the streets and sell when everyone else is drunk with investing success.
Personally I think Picerno frames TAA too narrowly; it is not the sole property of the value investor. For instance, anyone with a tax-free account such as a Roth IRA who pays low commissions can easily pursue a range of strategies, some of which might involve holding periods of days or weeks, not months or years. Yes, it requires more active management, but it doesn’t mean giving up one’s day job. Sometimes it even beats buy and hold!
In this book Picerno offers a little something for everyone. He summarizes an array of financial literature without becoming technical or mathematical, he outlines ways to tweak common portfolio management strategies, he points the way toward the future of asset allocation, and throughout he respects the personality and risk profile of the individual investor—hence the need for customized solutions.
Wednesday, February 3, 2010
Kroll, The Professional Commodity Trader
Earlier I wrote about Stanley Kroll on Futures Trading Strategy (1988). In 1974, the year before his first “retirement” at the age of 40, he invited the readers of The Professional Commodity Trader (reprinted in 1995 by Traders Press) to follow him as he traded between July 1971 and January 1974, during which time for the 39 accounts that he managed he turned $664,379 into $2,985,138. He funded his own account in July 1971 with $18,000; eighteen months later it had appreciated to $130,000. Apparently before he “retired,” he was sitting on a $1 million account. What was the secret of his success?
Kroll was a discretionary trend trader in the tradition of Jesse Livermore. He had simple entry and exit rules. To initiate a position he would trade in the direction of the major trend, against the minor trend. “For example, if the major trend is clearly up, trade the market from the long side, or not at all, buying when: a. the minor trend has turned down, and b. prices are ‘digging’ into support, and c. the market has made a 35-50 percent retracement of the previous up leg.” To close out a long position at a profit, liquidate one-third at a logical price objective into overhead resistance, another third at a long-term price objective into major resistance, and trail stop the remaining third. There are three approaches to closing out a position at a loss. First, enter an arbitrary “money” stop-loss such as 40-50% of the requisite margin; second, enter a chart stop-loss “to close out the position when the major trend reverses against your position—not when the minor trend reverses (that’s just the point where you should be initiating the position, not closing it out).” Finally, “maintain the position until you are convinced that you are wrong (the major trend has reversed against you) and then close out on the first technical correction.” (pp. 27-28) He admits that the last alternative can be potentially lethal; the technical correction may not come in a timely fashion.
Kroll offers some advice to the would-be futures trader. He urges the wannabe to play only for the major moves—not for scalps. As he writes, “Riding a winning commodity position is a lot like riding a bucking bronco. Once you manage to get aboard, you know what you have to do—hang on and stay hung on; not get bumped or knocked off till the end of the ride. And you know that if you can just manage to stay in the saddle, you’re a winner. Sounds simple? Well, that’s the essence of successful trading.” (p. 44)
Put another way, when ahead, “play for the big score and don’t settle for a minor profit.” On the other hand, when a trade isn’t working out, “spend your constructive effort in calculating how to close out the losing position with a minimum loss or perhaps a modest profit—and if such an opportunity is offered, take it.” Contrary to a lot of the literature, he also advocates striving for a high winning percentage. The problem with accepting a small fraction of winning trades is that “the winningest accounts . . . still manage to chalk up some mighty big losses—it seems just about impossible to always keep losses small, no matter how hard you try.” (p. 153)
I’ve extracted some words of wisdom from Kroll’s book, but what makes the book so enjoyable is that Kroll takes the reader through actual trades, some winners and others losers, and shows the courage it took to ride the bronco and the acute pain he felt when he was bucked off. It’s a book that you read in one sitting, fully engrossed.
Kroll was a discretionary trend trader in the tradition of Jesse Livermore. He had simple entry and exit rules. To initiate a position he would trade in the direction of the major trend, against the minor trend. “For example, if the major trend is clearly up, trade the market from the long side, or not at all, buying when: a. the minor trend has turned down, and b. prices are ‘digging’ into support, and c. the market has made a 35-50 percent retracement of the previous up leg.” To close out a long position at a profit, liquidate one-third at a logical price objective into overhead resistance, another third at a long-term price objective into major resistance, and trail stop the remaining third. There are three approaches to closing out a position at a loss. First, enter an arbitrary “money” stop-loss such as 40-50% of the requisite margin; second, enter a chart stop-loss “to close out the position when the major trend reverses against your position—not when the minor trend reverses (that’s just the point where you should be initiating the position, not closing it out).” Finally, “maintain the position until you are convinced that you are wrong (the major trend has reversed against you) and then close out on the first technical correction.” (pp. 27-28) He admits that the last alternative can be potentially lethal; the technical correction may not come in a timely fashion.
Kroll offers some advice to the would-be futures trader. He urges the wannabe to play only for the major moves—not for scalps. As he writes, “Riding a winning commodity position is a lot like riding a bucking bronco. Once you manage to get aboard, you know what you have to do—hang on and stay hung on; not get bumped or knocked off till the end of the ride. And you know that if you can just manage to stay in the saddle, you’re a winner. Sounds simple? Well, that’s the essence of successful trading.” (p. 44)
Put another way, when ahead, “play for the big score and don’t settle for a minor profit.” On the other hand, when a trade isn’t working out, “spend your constructive effort in calculating how to close out the losing position with a minimum loss or perhaps a modest profit—and if such an opportunity is offered, take it.” Contrary to a lot of the literature, he also advocates striving for a high winning percentage. The problem with accepting a small fraction of winning trades is that “the winningest accounts . . . still manage to chalk up some mighty big losses—it seems just about impossible to always keep losses small, no matter how hard you try.” (p. 153)
I’ve extracted some words of wisdom from Kroll’s book, but what makes the book so enjoyable is that Kroll takes the reader through actual trades, some winners and others losers, and shows the courage it took to ride the bronco and the acute pain he felt when he was bucked off. It’s a book that you read in one sitting, fully engrossed.
Tuesday, February 2, 2010
“I trade, therefore I am”—I hope not!
As part of my casting time (think fishing, not Hollywood) I looked at Edward Toppel’s little e-book Zen in the Markets: Confessions of a Samurai Trader. It’s not especially enlightening for anyone who has read the basic trading literature. He rails against chartists, saying that since history doesn’t repeat itself we must focus on the present and “listen to the voice of the market.” He advocates an egoless view of the market, “a view that is free of personality needs.” But what stopped me in my tracks was the so-called Samurai trader’s philosophy: “I trade, therefore I am.” (p. 12)
Here’s a man who claims that we have to say goodbye to Aristotle. Aristotle and Aristotelian logic, Toppel announces, belong “in universities and not in markets.” (p. 20) Yet he lifts and twists the famous pronouncement of Descartes, not exactly known as a Zen philosopher, to draw some kind of relationship between trading and being.
I am certain that Toppel is not making a fundamental epistemological point, so we need not retrace Descartes’ argument. He might simply be saying, “I trade, therefore I am vitalized.” As long as it’s not a prescription for overtrading, I don’t have a problem with the Cartesian knock-off. But he might also be saying something very dangerous: trading defines my very being, if I’m not trading I lose my sense of self. (And please don’t tell me I should go back to Logic 101; I’m describing what I suspect is a definition, not an “if . . . then” statement or a truncated syllogism.)
Here’s my point. Trading cannot define who we are. If it did, we could not be egoless traders (if that is even a worthy goal). More important, we would be impossible to live with; I can’t see how we could even live with ourselves. Trading is a business. It’s more than a job, much less than a life. I am, and am glad to be a trader, a reader, and a lot of other things that are peripheral to this blog. (Though, since I believe in working around the edges, I’m sure that sooner or later you’ll be introduced to Delta the geriatric basset hound and will hear about the progress of new varieties in the vegetable garden.) Trading is only part of a whole, however passionate a person may be about it; it cannot consume us to the point of taking over our lives, our very being.
Here’s a man who claims that we have to say goodbye to Aristotle. Aristotle and Aristotelian logic, Toppel announces, belong “in universities and not in markets.” (p. 20) Yet he lifts and twists the famous pronouncement of Descartes, not exactly known as a Zen philosopher, to draw some kind of relationship between trading and being.
I am certain that Toppel is not making a fundamental epistemological point, so we need not retrace Descartes’ argument. He might simply be saying, “I trade, therefore I am vitalized.” As long as it’s not a prescription for overtrading, I don’t have a problem with the Cartesian knock-off. But he might also be saying something very dangerous: trading defines my very being, if I’m not trading I lose my sense of self. (And please don’t tell me I should go back to Logic 101; I’m describing what I suspect is a definition, not an “if . . . then” statement or a truncated syllogism.)
Here’s my point. Trading cannot define who we are. If it did, we could not be egoless traders (if that is even a worthy goal). More important, we would be impossible to live with; I can’t see how we could even live with ourselves. Trading is a business. It’s more than a job, much less than a life. I am, and am glad to be a trader, a reader, and a lot of other things that are peripheral to this blog. (Though, since I believe in working around the edges, I’m sure that sooner or later you’ll be introduced to Delta the geriatric basset hound and will hear about the progress of new varieties in the vegetable garden.) Trading is only part of a whole, however passionate a person may be about it; it cannot consume us to the point of taking over our lives, our very being.
Monday, February 1, 2010
Passarelli, Trading Option Greeks
I think we profit enormously from looking at alternative approaches to a problem. Take long division, for instance. I learned how to do long division in an American school. Then I met someone who had learned arithmetic in a Hungarian school and did long division entirely differently. Or look at the technique at Math Mojo.
Options, more than most trading instruments, require the trader to be mentally flexible, to be able to assess a scenario from multiple perspectives, to know how to accomplish a single goal in a multiplicity of ways. For starters, option trades can be described in terms of a set of theoretical “moving parts,” the Greeks. The Greeks don’t cause a change in the price of the option, that’s the job of supply and demand. Rather, they are alternative ways to understand option pricing and changes in pricing. The Greeks also offer an elegant set of tools to help manage both trade and portfolio risk.
Dan Passarelli covers familiar ground in Trading Option Greeks: How Time, Volatility, and Other Pricing Factors Drive Profit (Bloomberg Press, 2008) but often with a fresh slant. (How could I not smile at a chapter entitled “Greek Philosophy”?) His prose is sometimes vivid: “While choosing closer strikes can lead to higher premiums [in an iron condor], the range can be so constricting that it asphyxiates the possibility of profit.” (p. 191) Moreover, Passarelli is a strategic thinker who urges a careful weighing of the data: “Trading is both cerebral and statistical in nature. It’s about gaining a statistically better chance of success by making rational decisions.” (p. 223)
Passarelli’s book is thorough, covering the basics of option Greeks in the first half (spanning about 150 pages) of the book and then moving on to spreads and volatility trading. It’s both a good text and a worthy reference book. It will have a place in my library.
Options, more than most trading instruments, require the trader to be mentally flexible, to be able to assess a scenario from multiple perspectives, to know how to accomplish a single goal in a multiplicity of ways. For starters, option trades can be described in terms of a set of theoretical “moving parts,” the Greeks. The Greeks don’t cause a change in the price of the option, that’s the job of supply and demand. Rather, they are alternative ways to understand option pricing and changes in pricing. The Greeks also offer an elegant set of tools to help manage both trade and portfolio risk.
Dan Passarelli covers familiar ground in Trading Option Greeks: How Time, Volatility, and Other Pricing Factors Drive Profit (Bloomberg Press, 2008) but often with a fresh slant. (How could I not smile at a chapter entitled “Greek Philosophy”?) His prose is sometimes vivid: “While choosing closer strikes can lead to higher premiums [in an iron condor], the range can be so constricting that it asphyxiates the possibility of profit.” (p. 191) Moreover, Passarelli is a strategic thinker who urges a careful weighing of the data: “Trading is both cerebral and statistical in nature. It’s about gaining a statistically better chance of success by making rational decisions.” (p. 223)
Passarelli’s book is thorough, covering the basics of option Greeks in the first half (spanning about 150 pages) of the book and then moving on to spreads and volatility trading. It’s both a good text and a worthy reference book. It will have a place in my library.
Subscribe to:
Posts (Atom)
Posts
