Market Wizards: Interviews with Top Traders (Michael Marcus & Bruce Kovner) Page 94

Market Wizards: Interviews with Top Trade(Michael Marcus & Bruce Kovner) Page 94

Market Wizards: Interviews with Top Trader

Preface to the Paperback Edition

                

The most basic investment question is: Can the markets be beat? The efficient market hypothesis provides an unambiguous answer: No, unless you count those who are lucky.

                

The efficient market hypothesis, a theory explaining how market prices are determined and the implications of the process, has been the foundation of much of the academic research on markets and investing during the past half century. The theory underlies virtually every important aspect of investing, including risk measurement, portfolio optimization, index investing, and option pricing. The efficient market hypothesis can be summarized as follows:

                

                

Prices of traded assets already reflect all known information.

                

Asset prices instantly change to reflect new information.

Therefore,

                

Market prices are perfect.

                

It is impossible to consistently outperform the market by using any information that the market already knows.

                

The efficient market hypothesis comes in three basic flavors:

                

                

Weak efficiency. This form of the efficient market hypothesis states that past market price data cannot be used to beat the market. Translation: Technical analysis is a waste of time.

                

Semi-strong efficiency (presumably named by a politician). This form of the efficient market hypothesis contends that you can’t beat the market using any publicly available information. Translation: Fundamental analysis is also a waste of time.

                

Strong efficiency. This form of efficient market hypothesis argues that even private information can’t be used to beat the market. Translation: The enforcement of insider trading rules is a waste of time.

                

Corollary: The readers of this book are delusional.

                

The efficient market hypothesis assumes the markets can’t be beat because everyone has the same information. This reasoning is conceptually flawed. Even if everyone had all the same information, there’s no reason to assume they would reach the same decision as to the appropriate price of a market or security. For example, in a chess tournament, all the players know the same rules and have access to the same chess books and records of past games by world champions, yet only a small minority excel. There is no reason to assume that all the players will use the same information with equal effectiveness. Why should the markets, which in a sense represent an even more complex game than chess (there are more variables and the rules are always changing) be any different?

                

In a chess tournament, a few highly skilled players will win most of the games by exploiting the mistakes of weaker players. Much like chess, it seems only reasonable to expect a few highly skilled market participants to interpret the same information—the current position of the market chessboard, so to speak—differently from the majority, and reach variant conclusions about the probable market direction. In this conceptual framework, mistakes by a majority of less skilled market participants can drive prices to incorrect levels (i.e., prices out of line with the unknown equilibrium level), creating opportunities for more skilled traders.

                

Efficient market hypothesis proponents are absolutely correct in contending that markets are very difficult to beat, but they are right for the wrong reason. The difficulty in gaining an edge in the markets is not because prices instantaneously discount all known information (although they sometimes do), but rather because the impact of emotion on prices varies greatly and is nearly impossible to gauge. Sometimes emotions will cause prices to wildly overshoot any reasonable definition of fair value—we call these periods market bubbles. At other times, emotions will cause prices to plunge far below any reasonable definition of fair value—we call these periods market panics. Finally, in perhaps the majority of the time, emotions will exert a limited distortional impact on prices—market environments in which the efficient market hypothesis provides a reasonable approximation. So either market prices are not significantly out of line with fair valuations (muted influence of emotions on price) or we are faced with the difficult task of determining how far the price deviation may extend.

Although it is often possible to identify when the market is in a euphoric or panic state, it is the difficulty in assessing how far bubbles and panics will carry that makes it so hard to beat the market. One can be absolutely correct in assessing a fair value for a market, but lose heavily by taking a position too early. For example, consider a trader who in late 1999 decided the upward acceleration in technology stocks was overdone and went short the NASDAQ index as it hit the 3,000 mark. Although this assessment would have been absolutely correct in terms of where the market traded in the decade beginning the year after the bubble burst (1,100 to 2,900 range), our astute trader would likely have gone broke as the market soared an additional 68 percent before peaking at 5,048 in March 2000. The trader’s market call would have been fundamentally correct and only four months off in picking the top of a 10-year-plus bull market, yet the trade would still have been a disaster. There is certainly no need to resort to the assumption of market perfection to explain why winning in the markets is difficult.

                

The acknowledgment that emotions can exert a strong, and even dominant, influence on price has critical implications. According to this view of market behavior, markets will still be difficult to beat (because of the variability and unpredictability of emotions as a market factor) but, importantly, not impossible to beat. In fact, the impact of emotions causing prices to move far out of line with true valuations will itself create investing and trading opportunities.

Supporters of the efficient market hypothesis are reluctant to give up the theory, despite mounting contradictory evidence, because it provides the foundation for a broad range of critical financial applications, including risk assessment, optimal portfolio allocation, and option pricing. The unfortunate fact, however, is that these applications can lead to erroneous conclusions because the underlying assumptions are incorrect. Moreover, the errors will be most extreme in those periods when the cost of errors will be most severe (i.e., market bubbles and panics). In some sense, efficient market hypothesis proponents are like the proverbial man looking for dropped car keys in the parking lot under the lamppost because that is where the light is.

                

The flaws of the efficient market hypothesis are both serious and numerous:

                

If true, the impossible has happened—and many times. To cite only one example, on October 19, 1987, S&P futures fell by an astounding 29 percent! If the efficient market hypothesis were correct, the probability of such an event occurring would be 10−160—a probability that is so impossibly remote that it is roughly equivalent to the odds of randomly picking a specific atom in the universe and then randomly picking the same atom in a second  trial. (This calculation is based on the estimate of 10⁸⁰ atoms in the universe. Source: www.wolframalpha.com.)

                

Some market participants (including some in this book) have achieved track records that would be a statistical impossibility if the efficient market hypothesis were true.

                

The assumed mechanism for prices adjusting to correct levels is based on a flawed premise, since the price impact of informed traders can be outweighed temporarily by the actions of less knowledgeable traders or by the activity of hedgers and governments, which are motivated by factors other than profit.

                

Market prices completely out of line with any plausible valuations are a common occurrence.

                

Price moves often occur well after the fundamental news is well known.

                

Everyone having the same information does not imply that  everyone will use information with equal efficiency.

                

The efficient market hypothesis fails to incorporate the impact of human emotions on prices, thereby leaving out a key market price influence that throughout history has at times (e.g., market bubbles and crashes) dominated the influence of fundamental factors.

                

The bad news is: The efficient market hypothesis would preclude the possibility of beating the market other than by chance. The good news is: The efficient market hypothesis appears to be deeply flawed on both theoretical and empirical grounds. So to answer the question at the start of this section, yes, the markets can be beat, although doing so is very difficult.

                

I am frequently asked whether becoming a Market Wizard is a matter of innate talent or hard work. My standard answer is to use a running analogy. As intimidating as the task may seem to those physically unconditioned, most people can run a marathon given sufficient training and dedication. But only the small minority born with the right physical characteristics will ever be able to run a 2:15 (men) or 2:30 (women) time, regardless of how hard they work. The analogy for trading is that, similar to running a marathon, proficiency is achievable with hard work, but performing at an elite level requires some degree of innate talent. The level of trading success attained by many of the Market Wizards is possible only because they have some innate skill, or some inner radar, that gives them a better—than—even probability of sensing what markets Will

do. I don’t care how devoted someone is to trading or how many hours they are Willing to watch trading screens; the reality is that this type of skill will be out of reach for most people.

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Preface

                

There are some amazing stories here:

                

                

A trader who, after wiping out several times early in his career, turned a $30,000 account into $80 million

                

A fund manager who achieved what many thought impossible—five consecutive years of triple-digit percentage returns

                

A trader from small-town America who started out on a shoestring and has become one of the world’s largest bond traders

                

A former securities analyst who, during the past seven years, has realized an average monthly return of 25 percent (over 1,400 percent annualized), primarily trading stock index futures

                

An electrical engineering graduate from MIT whose largely computerized approach to trading has earned his accounts an astounding 250,000 percent return over a sixteen-year period

                

These are but a sampling of the interviews contained in this book. In his own way, each of the traders interviewed has achieved incredible success.

                

What sets these traders apart? Most people think that winning in the markets has something to do with finding the secret formula. The truth is that any common denominator among the traders I interviewed had more to do with attitude than approach. Some of the traders use fundamental analysis exclusively, others employ only technical analysis, and still others combine the two. Some traders operate on a time horizon measured in hours or even minutes, while others typically implement positions that they intend to hold for months or even years. Although the trading methodologies varied widely, the forthcoming interviews reveal certain important commonalities in trading attitudes and principles.

                

Trading provides one of the last great frontiers of opportunity in  our economy. It is one of the very few ways in which an individual can start with a relatively small bankroll and actually become a multimillionaire. Of course, only a handful of individuals (such as those interviewed here) succeed in turning this feat, but at least the opportunity exists.

                

While I hardly expect all readers of this book to transform themselves into super-traders—the world just doesn’t work that way—I believe that these thought-provoking interviews will help most serious and open-minded readers improve their personal trading performance. It may even help a select few become super-traders.

                

Jack D. Schwager

Goldens Bridge, NY

May 1989

                

                

                

Acknowledgments

                

First and foremost, I would like to thank Stephen Chronowitz, who pored over every chapter in this book and provided a multitude of helpful suggestions and editing changes. I am indebted to Steve for both the quantity (hours) and quality of his input. I truly believe that whatever the merits of this work, it has benefited significantly from his contributions.

                

I am grateful to my wife, Jo Ann, not only for enduring nine months as a “book widow,” but also for being a valuable sounding board—a role she performed with brutal honesty. Sample: “This is the worst thing you ever wrote!” (Needless to say, that item was excised from the book.) Jo Ann possesses common sense in abundance, and I usually followed her advice unquestioningly.

                

Of course, I would like to express my thanks to all the traders who agreed to be interviewed, without whom there would be no book. By and large, these traders neither need nor seek publicity, as they trade only for their own accounts or are already managing all the money they wish to. In many cases, their motives for participating  were altruistic. For example, as one trader expressed it, “When I was starting out, I found biographies and interviews of successful traders particularly helpful, and I would like to play a similar role in helping new traders.”

                

I wish to express my sincere appreciation to Elaine Crocker for her friendly persuasion, which made some of the chapters in this book possible. For advice, leads, and other assorted favors, I would like to thank Courtney Smith, Norm Zadeh, Susan Abbott, Bruce Babcock, Martin Presler, Chuck Carlson, Leigh Stevens, Brian Gelber, Michael Marcus, and William Rafter. Finally, I would like to thank three traders who were gracious enough to grant me lengthy interviews, which were not incorporated into this book: Irv Kessler, Doug Redmond, and Martin Presler (the former two because, in retrospect, I considered my line of questioning too esoteric and technical; the latter because publication deadlines did not permit time for needed follow-up interviews and editing).

                

                

                

Prologue

                

The name of the book was The Big Board. . .. It was about an Earth-ling man and woman who were kidnapped by extraterrestrials. They were put on display in a zoo on a planet called Zircon-212.

                

These fictitious people in the zoo had a big board supposedly showing stock market quotations and commodity prices along one wall of their habitat, and a news ticker, and a telephone that was supposedly connected to a brokerage on Earth. The creatures on Zircon-212 told their captives that they had invested a million dollars for them back on Earth, and that it was up to the captives to manage it so that they would be fabulously wealthy when they were returned to Earth.

                

The telephone and the big board and the ticker were all fakes, of course. They were simply stimulants to make the Earthlings perform vividly for the crowds at the zoo—to make them jump up and down and cheer, or gloat, or sulk, or tear their hair, to be scared shitless or to feel as contented as babies in their mothers’ arms.

                

The Earthlings did very well on paper. That was part of the rigging, of course. And religion got mixed up in it, too. The news ticker reminded them that the President of the United States had declared National Prayer Week, and that everybody should pray. The Earthlings had had a bad week on the market before that. They had lost a small fortune in olive oil futures. So they gave praying a whirl. It worked. Olive oil went up.

                

—Kurt Vonnegut Jr.

Slaughterhouse Five

                

If the random walk theorists are correct, then Earthbound traders are suffering from the same delusions as the zoo inhabitants of Kilgore Trout’s novel. (Kilgore Trout is the ubiquitous science fiction writer in Kurt Vonnegut’s novels.) Whereas the prisoners on Zircon-212 thought their decisions were being based on actual price quotes—they were not—real-life traders believe they can beat the market by their acumen or skill. If markets are truly efficient and random in every time span, then these traders are attributing their success or failure to their own skills or shortcomings, when in reality it is all a matter of luck.

After interviewing the traders for this book, it is hard to believe this view of the world. One comes away with a strong belief that it is highly unlikely that some traders can win with such consistency over vast numbers of trades and many years. Of course, given enough traders, some will come out ahead even after a long period of time, simply as a consequence of the laws of probability. I leave it for the mathematicians to determine the odds of traders winning by the magnitude and duration that those interviewed here have. Incidentally, the traders themselves have not a glimmer of doubt that, over the long run, the question of who wins and who loses is determined by skill, not luck. I, too, share this conviction.

                

                

                

My Own Story

                

Right out of graduate school, I landed a job as a commodity research analyst. I was pleasantly surprised to find that my economic and statistical analysis correctly predicted a number of major commodity price moves. It was not long thereafter that the thought of trading came to mind. The only problem was that my department generally did not permit analysts to trade. I discussed my frustration over this situation with Michael Marcus (first interview), with whom I became friends while interviewing for the research position he was vacating. Michael said, “You know, I had the same problem when I worked there. You should do what I did—open an account at another firm.” He introduced me to a broker at his new firm, who was willing to open the account.

                

At the time, I was earning less than the department secretary, so I didn’t exactly have much risk capital. I had my brother open a $2,000 account for which I acted as an advisor. Since the account had to be kept secret, I could not call in any orders from my desk. Every time I wanted to initiate or liquidate a position, I had to take the elevator to the building’s basement to use the public phone. (Marcus’ solution to the same problem is discussed in his  interview.) The worst part of the situation was not merely the delays in order entry, which were often nerve-wracking, but the fact that I had to be very circumspect about the number of times I left my desk. Sometimes, I would decide to delay an order until the following morning in order to avoid creating any suspicion.

                

I don’t remember any specifics about my first few trades. All I recall is that, on balance, I did only a little better than break even after paying commissions. Then came the first trade that made a lasting impression. I had done a very detailed analysis of the cotton market throughout the entire post-World War II period. I discovered that because of a variety of government support programs, only two seasons since 1953 could truly be termed free markets [markets in which prices were determined by supply and demand rather than the prevailing government program]. I correctly concluded that only these two seasons could be used in forecasting prices. Unfortunately, I failed to reach the more significant conclusion that existing data were insufficient to permit a meaningful market analysis. Based on a comparison with these two seasons, I inferred that cotton prices, which were then trading at 25 cents per pound, would move higher, but peak around 32-33 cents.

                

The initial part of the forecast proved correct as cotton prices edged higher over a period of months. Then the advance accelerated and  cotton jumped from 28 to 31 cents in a single week. This latest rally was attributed to some news I considered rather unimportant. “Close enough to my projected top,” I thought, and I decided to go short. Thereafter, the market moved slightly higher and then quickly broke back to the 29-cent level. This seemed perfectly natural to me, as I expected markets to conform to my analysis. My profits and elation were short-lived, however, as cotton prices soon rebounded to new highs and then moved unrelentingly higher: 32 cents, 33 cents, 34 cents, 35 cents. Finally, with my account equity wiped out, I was forced to liquidate the position. Not having much money in those days may have been one of my luckiest breaks, since cotton eventually soared to an incredible level of 99 cents—more than double the century’s previous high price!

                

That trade knocked me out of the box for a while. Over the next few years, I again tried my hand at trading a couple of times. In each instance, I started with not much more than $2,000 and eventually wiped out because of a single large loss. My only consolation was that the amounts I lost were relatively small.

                

Two things finally broke this pattern of failure. First, I met Steve Chronowitz. At the time, I was the commodity research director at Homblower & Weeks, and I hired Steve to fill a slot as the department’s precious metals analyst. Steve and I shared the same  office, and we quickly became good friends. In contrast to myself, a pure fundamental analyst, Steve’s approach to the markets was strictly technical. (The fundamental analyst uses economic data to forecast prices, while the technical analyst employs internal market data—such as price, volume, and sentiment—to project prices.)

                

Until that time, I had viewed technical analysis with great skepticism. I tended to doubt that anything as simple as chart reading could be of any value. Working closely with Steve, however, I began to notice that his market calls were often right. Eventually, I became convinced that my initial assessment of technical analysis was wrong. I realized that, at least for myself, fundamental analysis alone was insufficient for successful trading; I also needed to incorporate technical analysis for the timing of trades.

                

The second key element that finally put me into the winner’s column was the realization that risk control was absolutely essential to successful trading. I decided that I would never again allow myself to lose everything on a single trade—no matter how convinced I was of my market view.

                

Ironically, the trade that I consider my turning point and one of my best trades ever was actually a loss. At the time, the Deutsche mark  had carved out a lengthy trading range following an extended decline. Based on my market analysis, I believed that the Deutsche mark was forming an important price base. I went long within the consolidation, simultaneously placing a good-till-cancelled stop order just below the recent low. I reasoned that if I was right, the market should not fall to new lows. Several days later, the market started falling and I was stopped out of my position at a small loss. The great thing was that after I was stopped out, the market plummeted like a stone. In the past, this type of trade would have wiped me out; instead, I suffered only a minor loss.

                

Not long thereafter, I became bullish on the Japanese yen, which had formed a technically bullish consolidation, providing a meaningful close point to place a protective stop. While I normally implemented only a one-contract position, the fact that I felt reasonably able to define my risk at only 15 ticks per contract—today, I find it hard to believe that I was able to get away with that close a stop—allowed me to put on a three-contract position. The market never looked back. Although l ended up getting out of that position far too early, I held one of the contracts long enough to triple my small account size. That was the start of my success at trading. Over the next few years, the synthesis of technical and fundamental analysis combined with risk control allowed me to build my small stake into well over $100,000.

                

Then the streak ended. I found myself trading more impulsively, failing to follow the rules I had learned. In retrospect, I believe I had just become too cocky. In particular, I remember a losing trade in soybeans. Instead of taking my loss when the market moved against me, I was so convinced that the decline was a reaction in a bull market that I substantially increased my position. The mistake was compounded by taking this action in front of an important government crop report. The report came out bearish, and my equity took a dramatic decline. In a matter of days, I had surrendered over one-quarter of my cumulative profits.

                

After cashing in my chips to buy a house and later taking a year-long sabbatical to write a book,* my savings were sufficiently depleted to defer my reentry into trading for nearly five years. When I began trading again, typical to my usual custom, I started with a small amount: $8,000. Most of this money was lost over the course of a year. I added another $8,000 to the account and, after some further moderate setbacks, eventually scored a few big winning trades. Within about two years, I had once again built my trading account up to over $100,000. I subsequently stalled out, and during the past year, my account equity has fluctuated below this peak.

                

Although, objectively, my trading has been successful, on an emotional level, I often view it with a sense of failure. Basically, I feel that given my market knowledge and experience, I should have done better. “Why,” I ask myself, “have I been able to multiply a sub-$10,000 account more than tenfold on two occasions, yet unable to expand the equity much beyond that level, let alone by any multiples?” A desire to find the answers was one of my motivations for writing this book. I wanted to ask those traders who had already succeeded: What are the key elements to your success? What approach do you use in the markets? What trading rules do you adhere to? What were your own early trading experiences? What advice would you give to other traders? While, on one level, my search for answers was a personal quest to help surpass my own barriers, in a broader sense, I saw myself as Everyman, asking the questions I thought others would ask if given the opportunity.

 * Jack D. Schwager, A Complete Guide to the Futures Markets (John Wiley & Sons, New York, NY, 1984).

Part I

                FUTURES AND CURRENCIES

Taking the Mystery Out of Futures

                

Of all the markets discussed in this book, the futures market is probably the one least understood by most investors. It is also one of the fastest growing. Trading volume in futures has expanded more than twentyfold during the past twenty years. In 1988, the dollar value of all futures contracts traded in the U.S. exceeded $10 trillion!* Obviously, there is a lot more than pork belly trading involved here.

                

Today’s futures markets encompass all of the world’s major market groups: interest rates (e.g., T-bonds), stock indexes (e.g., the S&P 500), currencies (e.g., Japanese yen), precious metals (e.g., gold), energy (e.g., crude oil), and agricultural commodities (e.g., corn). Although the futures markets had their origins in agricultural commodities, this sector now accounts for only about one-fifth of total futures trading. During the past decade, the introduction and spectacular growth of many new contracts has resulted in the financial-type markets (currencies, interest rate instruments, and stock indexes) accounting for approximately 60 percent of all futures trading. (Energy and metal markets account for nearly half of the remaining 40 percent.) Thus, while the term commodities is  often used to refer to the futures markets, it has increasingly become a misnomer. Many of the most actively traded futures markets, such as those in the financial instruments, are not truly commodities, while many commodity markets have no corresponding futures markets.

                

The essence of a futures market is in its name: Trading involves a standardized contract for a commodity, such as gold, or a financial instrument, such as T-bonds, for a future delivery date, as opposed to the present time. For example, if an automobile manufacturer needs copper for current operations, it will buy its materials directly from a producer. If, however, the same manufacturer was concerned that copper prices would be much higher in six months, it could approximately lock in its costs at that time by buying copper futures now. (This offset of future price risk is called a hedge.) If copper prices climbed during the interim, the profit on the futures hedge would approximately offset the higher cost of copper at the time of actual purchase. Of course, if copper prices declined instead, the futures hedge would result in a loss, but the manufacturer would end up buying its copper at lower levels than it was willing to lock in.

                

While hedgers, such as the above automobile manufacturer, participate in futures markets to reduce the risk of an adverse price  move, traders participate in an effort to profit from anticipated price changes. In fact, many traders will prefer the futures markets over their cash counterparts as trading vehicles for a variety of reasons:

                

                

Standardized contracts—Futures contracts are standardized (in terms of quantity and quality); thus, the trader does not have to find a specific buyer or seller in order to initiate or liquidate a position.

                

Liquidity—All of the major futures markets provide excellent liquidity.

                

Ease of going short—The futures markets allow equal ease of going short as well as long. For example, the short seller in the stock market (who is actually borrowing stock to sell) must wait for an uptick before initiating a position; no such restriction exists in the futures markets.

                

Leverage—The futures markets offer tremendous leverage. Roughly speaking, initial margin requirements are usually equal to 5 to 10  percent of the contract value. (The use of the term margin in the futures market is unfortunate because it leads to tremendous confusion with the concept of margins in stocks. In the futures markets, margins do not imply partial payments, since no actual physical transaction occurs until the expiration date; rather, margins are basically good-faith deposits.) Although high leverage is one of the attributes of futures markets for traders, it should be emphasized that leverage is a two-edged sword. The undisciplined use of leverage is the single most important reason why most traders lose money in the futures markets. In general, futures prices are no more volatile than the underlying cash prices or, for that matter, many stocks. The high-risk reputation of futures is largely a consequence of the leverage factor.

                

Low transaction costs—Futures markets provide very low transaction costs. For example, it is far less expensive for a stock portfolio manager to reduce market exposure by selling the equivalent dollar amount of stock index futures contracts than by selling individual stocks.

                

Ease of offset—A futures position can be offset at any time during market hours, providing prices are not locked at limit-up or limit-down. (Some futures markets specify daily maximum price changes. In cases in which free market forces would normally seek  an equilibrium price outside the range of boundaries implied by price limits, the market will simply move to the limit and virtually cease to trade.)

                

Guaranteed by exchange—The futures trader does not have to be concerned about the financial stability of the person on the other side of the trade. All futures transactions are guaranteed by the clearinghouse of the exchange.

                

Since by their very structure, futures are closely tied to their underlying markets (the activity of arbitrageurs assures that deviations are relatively minor and short lived), price moves in futures will very closely parallel those in the corresponding cash markets. Keeping in mind that the majority of futures trading activity is concentrated in financial instruments, many futures traders are, in reality, traders in stocks, bonds, and currencies. In this context, the comments of futures traders interviewed in the following chapters have direct relevance even to investors who have never ventured beyond stocks and bonds.

The Interbank Currency Market Defined

                

The interbank currency market is a twenty-four-hour market which literally follows the sun around the world, moving from banking centers in the U.S. to Australia, to the Far East, to Europe, and finally back to the U.S. The market exists to fill the need of companies to hedge exchange risk in a world of rapidly fluctuating currency values. For example, if a Japanese electronics manufacturer negotiates an export sale of stereo equipment to the U.S. with payment in dollars to be received six months hence, that manufacturer is vulnerable to a depreciation of the dollar versus the yen during the interim. If the manufacturer wants to assure a fixed price in the local currency (yen) in order to lock in a profit, he can hedge himself by selling the equivalent amount of U.S. dollars in the interbank market for the anticipated date of payment. The banks will quote the manufacturer an exchange rate for the precise amount required, for the specific future date.

                

Speculators trade in the interbank currency market in an effort to profit from their expectations regarding shifts in exchange rates. For example, a speculator who anticipated a decline in the British pound against the dollar would simply sell forward British pounds.

Speculators trade in the interbank currency market in an effort to profit from their expectations regarding shifts in exchange rates. For example, a speculator who anticipated a decline in the British pound against the dollar would simply sell forward British pounds.

(All transactions in the interbank market are dominated in US dollars.) A speculator who expected the British pound to decline versus the Japanese yen would buy a specific amount of  Japanese yen and sell an equivalent dollar amount of British pounds.

Michael Marcus: Blighting Never Strikes Twice

                

Michael Marcus began his career as a commodity research analyst for a major brokerage house. His near-compulsive attraction to trading led him to abandon his salaried position to pursue full-time trading. After a brief, almost comical, stint as a floor trader, he went to work for Commodities Corporation, a firm that hired professional traders to trade the company’s own funds. Marcus became one of their most successful traders. In a number of years, his profits exceeded the combined total profit of all the other traders. Over a ten-year period, he multiplied his company account by an incredible 2,500-fold!

                

I first met Marcus the day I joined Reynolds Securities as a futures research analyst. Marcus had accepted a similar job at a competing firm, and I was assuming the position he had just vacated. In those early years in both our careers, we met regularly. Although I usually found my own analysis more persuasive when we disagreed, Marcus ultimately proved right about the direction of the market. Eventually, Marcus accepted a job as a trader, became very successful, and moved out to the West Coast.

                

When I first conceived the idea for this book, Marcus was high on my list of interview candidates. Marcus’ initial response to my request was agreeable, but not firm. Several weeks later, he declined, as his desire to maintain anonymity dominated his natural inclination to participate in an endeavor he found appealing. (Marcus knew and respected many of the other traders I was interviewing.) I was very disappointed because Marcus is one of the finest traders I have been privileged to know. Fortunately, some additional persuasion by a mutual friend helped change his mind.

                

When I met Marcus for this interview, it had been seven years since we had last seen each other. The interview was conducted in Marcus’ home, a two-house complex set on a cliff overlooking a private beach in Southern California. You enter the complex through a massive gate (“amazing gate” as described by an assistant who provided me with driving directions) that would probably have a good chance of holding up through a panzer division attack.

                

On first greeting, Marcus seemed aloof, almost withdrawn. This quiet side of Marcus’ personality makes his description of his short-lived attempt to be a floor trader particularly striking. He became animated, however, as soon as he began talking about his trading experiences. Our conversation focused on his early “roller coaster” years, which he considered to be the most interesting of his career.

How did you first get interested in trading futures?

                

                

I was something of a scholar. In 1969, I graduated from Johns Hopkins, Phi Beta Kappa, near the top of my class. I had a Ph.D. fellowship in psychology at Clark University, and fully expected to live the life of a professor. Through a mutual friend, I met this fellow named John, who claimed he could double my money every two weeks, like clockwork. That sounded very appealing [he laughs]. I don’t think I even asked John how he could do it. It was such an attractive idea that I didn’t want to spoil things by finding out too many facts. I was afraid I would get cold feet.

                

Weren’t you skeptical? Didn’t he sound too much like a used car salesman?

                

No, I had never invested in anything, and I was very naive. I hired John, who was a junior at my school, to be my commodity trading advisor at $30 a week. Occasionally, I threw in free potato chips and soda. He had a theory that you could subsist on that diet.

That’s all you paid him? Weren’t there any profit incentives—extra potato chips if he did well?

                

No.

                

How much money did you allot for trading?

About $1,000 that I had saved up.

                

Then what happened?

                

My first trip to a brokerage house was very, very exciting. I got dressed up, putting on my only suit, and we went to the Reynolds Securities office in Baltimore. It was a big, posh office, suggesting a lot of old money. There was mahogany all over the place and a hushed, reverential tone permeated the office. It was all very impressive.

                

The focal point was a big commodity board at the front of the office, the kind that clicked the old-fashioned way. It was really exciting to hear the click, click, click. They had a gallery from which the traders could watch the board, but it was so far away that we had to use binoculars to see the prices. That was also very exciting, because it was just like watching a horse race.

                

My first realization that things might become a little scary was when a voice came over the loudspeaker recommending the purchase of soybean meal. I looked at John, expecting to see an expression of confidence and assurance on his face. Instead, he looked at me and asked, “Do you think we should do it?” [he laughs]. It quickly dawned on me that John didn’t know anything at all.

                

I remember soybean meal was trading quietly: 78.30, 78.40, 78.30, 78.40. We put the order in, and as soon as we got the confirmation back, almost mystically, the prices started clicking down. As soon as it knew that I was in, the market took that as a signal to start descending. I guess I had good instincts even then, because I immediately said to John, “We’re not doing too well, let’s get out!” We lost about $100 on that trade.

The next trade was in corn, and the same thing happened. John asked me whether we should do the trade. I said, “Well all right, let’s try corn.” The outcome was the same.

                

Did you know anything at all about what you were doing? Had you read anything about commodities or trading?

No, nothing.

Did you even know the contract sizes?

No, we didn’t.

                

Did you know how much it was costing you per tick?

Yes.

                

Apparently, that was about the only thing you knew.

Right. Our next trade, in wheat, didn’t work either. After that, we went back to corn and that trade worked out better; it took us three days to lose our money. We were measuring success by the number of days it took us to lose.

                

Were you always getting out after about a $100 loss?

                

Yes, although one trade lost almost $200. I was down to about $500 when John came up with an idea that was “going to save the day.” We would buy August pork bellies and sell February pork bellies because the spread was wider than the carrying charges [the total cost of taking delivery in August, storing, and redelivering in February]. He said we couldn’t lose on that trade.

                

I vaguely understood the idea and agreed to the trade. That was the first time we decided to go out to lunch. All the other times we had been too busy scrutinizing the board, but we thought this was a “can’t lose” trade, so it was safe to leave. By the time we came back, I was just about wiped out. I remember this feeling of shock, dismay, and incredulity.

                

I will never forget the image of John—he was a very portly guy with thick, opaque glasses—going up to the quote board, pounding and shaking his fist at it, and shouting, “Doesn’t anyone want to make a guaranteed profit!” Later on, I learned that August pork bellies were not deliverable against the February contract. The logic of the trade was flawed in the first place.

                

Had John ever traded before?

                

No.

                

So where did he come up with this story about doubling your money every two weeks?

I don’t know, but after that trade, I was wiped out. So I told John that, in light of what happened, I thought I knew as much as he did—which was nothing—and that I was going to fire him. No more potato chips; no more diet soda. I’ll never forget his response. He told me, “You are making the greatest mistake of your life!” I asked him what he was going to do. He said, “I am going to Bermuda to wash dishes to make a trading stake. Then I am going to become a millionaire and retire.” The thing that amused me was that he didn’t say, “I’m going to Bermuda and take a job to make a trading stake.” He was very specific; he was going to wash dishes to get his trading stake.

                

What eventually happened to John?

                

To this day, I have no idea. For all I know, he might be living in Bermuda as a millionaire because he washed dishes.

                

After that, I managed to rustle up another $500 and placed a few silver trades. I wiped out that stake as well. My first eight trades, five with John and three on my own, were all losers.

                

Did the thought ever enter your mind that maybe trading was not for you?

                

No. I had always done well at school, so I figured it was just a question of getting the knack of it. My father, who died when I was fifteen, had left $3,000 in life insurance, which I decided to cash in, despite my mother’s objections.

                

But I knew I really needed to learn something before trading again. I read Chester Keltner’s books on wheat and soybeans, and I also subscribed to his market letter, which made trading recommendations. I followed the first recommendation, which was to buy wheat, and it worked. I think I made 4 cents per bushel [$200] on that trade. It was my first win and very exciting.

                

Then between letters, the market fell back to my original buying price, so I bought it again and made another profit on my own. I felt I was beginning to develop a sense for trading. Even in the beginning, I liked the feeling of doing things on my own. What happened next was just sheer luck. I bought three contracts of December corn in the summer of 1970, based on a Keltner  recommendation. That was the summer that blight devastated the corn crop.

                

Was that your first big win?

                

Yes, that trade combined with buying some more corn, wheat, and soybeans, partly on recommendations in the letter, and partly on my own intuition. When that glorious summer was over, I had accumulated $30,000, a princely sum to me, having come from a middle class family. I thought it was the best thing in the world.

                

How did you decide when to take profits?

                

I took some on the way up and some when the markets started coming down. Overall, I cashed in very well.

                

So instinctively, you were doing the right thing even then?

Yes. Then that fall I attended graduate school in Worcester, Massachusetts, but I found that I didn’t want to think about my thesis. Instead of going to class, I would often sneak down to the Paine Webber office in Worcester to trade.

                

I was having a great time. I made a little money, not a lot. I was shocked to find myself cutting classes frequently, since I had been a dedicated scholar at Johns Hopkins. I realized that the handwriting was on the wall, and in December 1970 I dropped out of school and moved to New York. I stayed at the Y for a while. When people asked me what I did, I rather pompously told them that I was a speculator. It had a nice ring to it.

                

In the spring of 1971, the grains started getting interesting again. There was a theory around that the blight had wintered over—that is, it had survived the winter and was going to attack the corn crop again. I decided I would be really positioned for the blight this time.

                

Was this Keltner’s theory, or just a market rumor?

I think Keltner believed it too. I borrowed $20,000 from my mother, added it to my $30,000, and bet everything on the blight. I bought the maximum number of corn and wheat contracts possible for $50,000 in margin. Initially, the markets held steady because there was enough fear of the blight to keep prices up. I wasn’t making money, but I wasn’t losing it either. Then one day—I will never forget this—there was an article in the Wall Street Journal with the headline: “More Blight on the Floor of the Chicago Board of Trade Than in Midwest Cornfields” [he laughs]. The corn market opened sharply lower and fairly quickly went limit-down.

                

[In many futures markets, the maximum daily price change is restricted by a specified limit. Limit-down refers to a decline of this magnitude, while limit-up refers to an equivalent gain. If, as in this case, the equilibrium price that would result from the interaction of free market forces lies below the limit-down price, then the market will lock limit-down—i.e., trading will virtually cease. Reason: there will be an abundance of sellers, but virtually no willing buyers at the restricted limit-down price.]

                

Were you watching the market collapse?

Yes, I was in the brokerage office, watching the board as prices fell.

Did you think of getting out on the way down before the market was locked limit-down?

                

I felt that I should get out, but I just watched. I was totally paralyzed. I was hoping the market would turn around. I watched and watched and then after it locked limit-down, I couldn’t get out. I had all night to think about it, but I really had no choice. I didn’t have any more money and had to get out. The next morning, I liquidated my entire position on the opening.

                

Was the market sharply lower again on the opening?

                

No, not sharply, just about 2 cents.

                

How much did you lose on the trade by the time you liquidated?

I lost my own $30,000, plus $12,000 of the $20,000 my mother had lent me. That was my lesson in betting my whole wad.

        

What did you do then?

I was really upset. I decided I had to go to work. Since there was a recession at the time, I thought I probably couldn’t get a really good job and should try to settle for a lesser position. I found that even though I interviewed for positions for which I was unusually well qualified, I couldn’t seem to get any job. I finally realized that I couldn’t get these jobs because I didn’t really want them.

                

One of the best job openings I found was a commodity research analyst slot at Reynolds Securities. I discovered that it was easier to get this better position because they could tell I really wanted it. I learned that if you shoot for what you want, you stand a much better chance of getting it because you care much more.

                

Anyway, there was a glass partition between my office and the main office where the brokers sat. I still had the trading bug and it was  very painful to watch them trading and whooping it up.

                

While you were just doing the research?

                

Right, because the analysts were strictly forbidden to trade. But I decided I wouldn’t let that stop me. I borrowed from my mother again, my brother, and my girlfriend and opened an account at another firm. I worked out an intricate code system with my broker to keep people in my office from knowing that I was violating the rules. For example, if I said, “the sun was out,” that meant one thing, while if I said, “the weather is cloudy,” it meant something else.

                

While I was trying to write my market reports, I kept peering out through the glass partition to see the prices on the big trading board in the main office. When I was winning, I tried to hide my elation, and when I was losing, I had to make sure not to let it show on my face. I don’t think anyone ever caught on, but I was in a manic-depressive state throughout that time. I felt tortured because I wanted to be free to trade without going through this elaborate charade.

Were you making or losing money during this time?

                

I lost. It was the same old cycle of borrowing money and consistently losing it.

                

Did you know what you were doing wrong then?

                

Good question. Basically, I had no real grasp of trading principles; I was doing everything wrong. Then in October 1971, while at my broker’s office, I met one of the people to whom I attribute my success.

                

Who was that?

                

Ed Seykota. He is a genius and a great trader who has been phenomenally successful. When I first met Ed he had recently graduated from MIT and had developed one of the first computer  programs for testing and trading technical systems. I still don’t know how Ed amassed so much knowledge about trading at such an early age.

                

Ed told me, “I think you ought to work here. We are starting a research group and you can trade your own account.” It sounded great; the only problem was that the firm’s research director refused to hire me.

                

Why?

                

I couldn’t imagine why since I wrote well and had experience. When I pressed him for a reason, he told me, “I can’t hire you because you already know too much and I want to train somebody.” I said, “Look, I will do anything you want.” Eventually, I convinced him to hire me.

                

It was really great, because I had Ed to learn from, and he was already a very successful trader. He was basically a trend follower, who utilized classic trading principles. He taught me how to cut my losses, as well as the importance of riding winners.

Ed provided an excellent role model. For example, one time, he was short silver and the market just kept looking down, a half penny a day, a penny a day. Everyone else seemed to be bullish, talking about why silver had to go up because it was so cheap, but Ed just stayed short. Ed said, “The trend is down, and I’m going to stay short until the trend changes.” I learned patience from him in the way he followed the trend.

                

Did Ed’s example turn you around as a trader?

                

Not initially. I continued to lose, even with Ed there.

                

Do you remember what you were still doing wrong at that time?

                

I think I wasn’t patient enough to wait for a clearly defined situation.

Did you think of just tailcoating Ed, because he was so successful?

                

                

No, I couldn’t bring myself to do that.

                

Did you ever think of just giving up on trading?

                

I would sometimes think that maybe I ought to stop trading because it was very painful to keep losing. In “Fiddler on the Roof,” there is a scene where the lead looks up and talks to God. I would look up and say, “Am I really that stupid?” And I seemed to hear a clear answer saying, “No, you are not stupid. You just have to keep at it.” So I did.

                

At the time, I was befriended by a very kind, knowledgeable, and successful semi retired broker at Shearson named Amos Hostetter. He liked my writing, and we used to talk. Amos reinforced a lot of the things Ed taught me. I was getting the same principles from two people.

Were you making recommendations for the firm at the time?

                

Yes.

                

And how did the recommendations work out?

                

They were better because I was more patient. Anyway, I was totally out of money, and out of people who would lend me money. But I still had a kind of stubborn confidence that I could somehow get back on the right track again. I was only making $12,500 a year, but I managed to save $700. Since that wasn’t even enough to open an account, I opened a joint account with a friend who also put up $700.

                

Were you totally directing the trading in this joint account?

Yes, my friend didn’t know anything about the markets. This was in July 1972 and, at the time, we were under price controls. The futures market was supposedly also under price controls.

                

This was Nixon’s price freeze?

                

                

Yes. As I recall, the plywood price was theoretically frozen at $110 per 1,000 square feet. Plywood was one of the markets I analyzed for the firm. The price had edged up close to $110, and I put out a bearish newsletter saying even though supplies were tight, since prices couldn’t go beyond $110, there was nothing to lose by going short at $110.

                

How did the government keep prices at the set limits? What prevented supply and demand from dictating a higher price?

                

                

It was against the law for prices to go higher.

You mean producers couldn’t charge more for it?

                

                

Right. What was happening though was that the price was being kept artificially low, and there is an economic principle that an artificially low price will create a shortage. So shortages developed in plywood, but supposedly the futures market was also under this guideline. However, no one was sure; it was sort of a gray area. One day, while I was looking at the quote board, the price hit $110. Then it hit $110.10; then $110.20. In other words, the futures price was trading 20 cents over the legal ceiling. So I started calling around to see what was going to happen, but nobody seemed to know.

                

Was plywood the only market exceeding its price freeze level?

                

                

Yes. Anyway, nothing happened. I think the market closed somewhere over $110 that day. The next day it opened at about $110.80. I used the following reasoning: If they let it trade over $110 today, they might let it trade anywhere. So I bought one contract. Well, ultimately, plywood went to $200. After I bought

 that first contract, and prices rose, it was just a matter of pyramiding and riding the position.

                

Was that your first really big trade after you had been wiped out in the corn market?

                

                

Yes.

                

Did the cash plywood market stay at $110?

                

                

The futures market functioned as a supply of last resort to users who couldn’t get supplies elsewhere.

                

Basically, it created a two-tiered market, a sort of legal black market?

Yes. Those who were frozen out because they didn’t have any longstanding relationships with producers could get their plywood at a higher price in the futures market. The producers were fuming at the thought that they had to sell at the legal price ceiling.

                

Why didn’t producers just sell futures and deliver against the contract as opposed to selling in the cash market at the price control level?

                

                

The smarter ones were learning that, but it was the infancy of futures trading in plywood and most producers weren’t that sophisticated. Some producers probably weren’t sure that it was legal to do that. Even if they thought it was, their lawyers might have told them, “Maybe people can buy plywood at any price in the futures market, but we better not sell and deliver above the legal ceiling.” There were a lot of questions.

                

Did the government ever try to interfere with the futures markets?

                

Well not exactly, but I will get back to that. In just a few months, $700 had grown into $12,000 trading plywood.

                

Was this the only trade you had on?

                

                

Yes. Then I got the bright idea that the same shortage situation was going to occur in lumber. I bet everything on one trade just as I had on the corn/wheat trade, expecting that lumber would also go through the ceiling price.

                

What was lumber doing at this time?

                

It did nothing. It just watched plywood go from $110 to $200. Since they were both wood products, and lumber was also in short supply, I reasoned that lumber could go way up—and it should have. However, after I bought lumber at around $130, the government finally woke up to what had happened in plywood, and they were determined not to let the same thing happen in lumber.

                

                

The day after I went long, some government official came out with an announcement that they were going to crack down on speculators in lumber who were trying to run up the market like they had plywood. The lumber market crashed just on that statement. I was down to the point where I was close to being wiped out again. There was a two-week period during which they kept issuing these statements. The market stabilized at a level just above where I would have been wiped out. I had just enough money left to hang on to my position.

                

The market was at $130 when you bought it. Where was it at this time?

                

                

About $117.

                

So even though the magnitude of this decline was much smaller than the price rise in plywood, you lost almost as much money because you had a much larger position in lumber than you had in plywood.

                

Right. During those two weeks, I was constantly on the verge of being wiped out. It was the worst two weeks in my whole life. I went to the office each day just about ready to give up.

                

Giving up just to stop the pain, or so that you would at least have something left?

                

                

Both. I was so upset that I couldn’t stop my hands from shaking.

                

How close did you come to being wiped out again?

                

Well, my $12,000 had shrunk to under $4,000.

                

Did you say to yourself, “I can’t believe I have done this again”?

Yes, and I never did it again. That was the last time I bet everything on one trade.

                

What eventually happened?

I managed to hold on, and the market finally turned around. There was a shortage, and the government didn’t seem to have the will to stop the futures market.

                

Was it insight or courage that gave you the willpower to hold on?

                

Desperation, mainly, although there was a support point on the charts that the market couldn’t seem to take out. So, I held on. At the end of that year, the $700, which I had run up to over $12,000 and back to under $4,000, was now worth $24,000. After that scary experience, I never really overtraded again.

The next year, 1973, the government began lifting the price controls. Because the price controls had created numerous artificial shortages, when they were lifted, there was a tremendous run-up in many commodities. Just about everything went up. Prices doubled in many markets, and I was able to take advantage of the tremendous leverage offered by low futures margins. The lessons I had learned from Seykota about staying in markets with major trends really paid off. In 1973, my account grew from $24,000 to $64,000.

                

At that time, we were seeing something completely new. I remember those markets. Even after prices had gone up only 10 percent of their eventual advance, historically, it seemed like a very large price move. What made you realize that prices could go so much further?

                

                

At the time, I was politically right wing and that fit with being an inflation-alarmist. The theory that the evil government was constantly debasing the currency provided the perfect perspective for trading the inflationary markets of the mid-1970s.

It was the right theory for the right time.

                

                

Right. The markets were so fertile for trading then that I could make plenty of mistakes and still do well.

                

Trading strictly on the long side?

                

                

Yes. Everything was going up. Although I was doing very well, I did make one terrible mistake. During the great soybean bull market, the one that went from $3.25 to nearly $12, I impulsively took my profits and got out of everything. I was trying to be fancy instead of staying with the trend. Ed Seykota never would get out of anything unless the trend changed. So Ed was in, while I was out, and I watched in agony as soybeans went limit-up for twelve consecutive days. I was real competitive, and every day I would come into the office knowing he was in and I was out. I dreaded going to work, because I knew soybeans would be bid limit again and I couldn’t get in.

                

Was this experience of not being in a runaway market as aggravating as actually losing money?

                

Yes, more so. It was so aggravating that one day I felt I couldn’t take it anymore and I tried tranquilizers to dull the mental anguish. When that didn’t work, somebody said, “Why don’t you take something stronger, called thorazine?”

                

I remember taking this thorazine at home and then getting on the subway to go to work. The subway doors started to close as I was getting on and I started to fall down. At first, I didn’t connect it with the thorazine. Anyway, I wandered back home and just fell through the doorway—it was that strong. It knocked me out and I missed work that day. That was the low point in my trading career.

                

You never threw in the towel and just went back into soybeans at some point?

                

                

No, I was afraid of losing.

                

Despite that mistake, you mentioned before that you built your account up to $64,000 by year-end. What happened next?

                

                

Around that time, I would occasionally have to go over to the Cotton Exchange. I would have an adrenalin rush when I heard the traders yelling and screaming. It seemed like the most exciting place in the world. But I learned that I needed to show $100,000 net worth to get in. Since I had virtually no assets outside of my commodity account, I couldn’t qualify.

                

I continued to make money in the markets, and after several months, I had surpassed the $100,000 mark. Around that same time, Ed Seykota recommended that I go long coffee. So I did, but I put a close stop in under the market just in case it went down. The market turned down and I was stopped out quickly. Ed, however, because he was a major trend follower, had no stop in and ended up being locked in a limit-down market for several days in succession.

                

Each day, Seykota was locked in a losing position while I was out of the market. That was the exact opposite situation of the soybean  trade, when he was in a winning trade and I was out. I couldn’t help it, but I felt a sense of joy. I asked myself, “What kind of a place is this that one’s greatest joy is to be found when somebody else is getting screwed?” That was the point I realized that what I was doing was too competitive, and I decided to become a floor trader at the New York Cotton Exchange.

                

It sounds like the floor would have been even more competitive.

                

                

Well, maybe, but it wasn’t.

                

Did you have any concern about being a floor trader—the fact that you were now reducing your field of opportunity down to one market?

                

                

I was a little concerned about it. As it turned out, I should have been very worried. However, the thought of trading in the ring was very exciting to me. The truth of the matter was that while I was very good at picking trades, I was a total bust at the execution part.

 I was very shy, and I was too timid to yell loud enough to make myself heard on the floor. I ended up slipping my orders to a floor trader friend of mine, who handled them for me. That went on for a few months until I realized what I was doing.

                

Were you still approaching the markets as a position trader even though you were on the floor?

                

                

Yes, but it was just out of timidity.

                

So, I assume that many days you weren’t even trading.

                

                

Right.

Was there any advantage to being on the floor?

No, not for me. But I did learn a lot from the experience, and I would recommend it to anybody who wants to become a better trader. I used what I learned there for years.

                

What type of things did you learn?

                

You develop an almost subconscious sense of the market on the floor. You learn to gauge price movement by the intensity of the voices in the ring. For example, when the market is active and moving, and then gets quiet, that is often a sign that it is not going to go much further. Also, sometimes when the ring is moderately loud and suddenly gets very loud, instead of being a sign that the market is ready to blast off, as you might think, it actually indicates that the market is running into a greater amount of opposing orders.

                

But how do you use that type of information once you are off the floor? You said that the things you learned on the floor helped you later on.

I learned the importance of intraday chart points, such as earlier daily highs. At key intraday chart points, I could take much larger positions than I could afford to hold, and if it didn’t work immediately, I would get out quickly. For example, at a critical intraday point, I would take a twenty-contract position, instead of the three to five contracts I could afford to hold, using an extremely close stop. The market either took off and ran, or I was out. Sometimes I would make 300, 400 points or more, with only a 10-point risk. That was because, by being on the floor, I had become familiar with how the market responded to those intraday points.

                

My trading in those days was a little bit like being a surfer. I was trying to hit the crest of the wave just at the right moment. But if it didn’t work, I just got out. I was getting a shot at making several hundred points and hardly risking anything. I later used that surfing technique as a desk trader. Although that approach worked real well then, I don’t think it would work as well in today’s markets.

                

Is that because the markets have become choppier?

Right. In those days, if the market reached an intraday chart point, it might penetrate that point, take off, and never look back. Now it often comes back.

                

So what is the answer?

                

I think the secret is cutting down the number of trades you make. The best trades are the ones in which you have all three things going for you: fundamentals, technicals, and market tone. First, the fundamentals should suggest that there is an imbalance of supply and demand, which could result in a major move. Second, the chart must show that the market is moving in the direction that the fundamentals suggest. Third, when news comes out, the market should act in a way that reflects the right psychological tone. For example, a bull market should shrug off bearish news and respond vigorously to bullish news. If you can restrict your activity to only those types of trades, you have to make money, in any market, under any circumstances.

                

Is that more restrictive trading style the approach you eventually adopted?

No, because basically I enjoyed the game too much. I knew that I should only be in those optimum trades, but trading was a release and hobby for me. It replaced a lot of other things in my life. I placed the fun of the action ahead of my own criteria. However, the thing that saved me was that when a trade met all my criteria, I would enter five to six times the position size I was doing on the other trades.

                

Were all your profits coming from the trades that met the criteria?

                

Yes.

                

Were the other trades breaking even?

                

The other trades broke even and kept me amused.

                

Did you keep track of which were which so you knew what  was going on?

                

                

Just mentally. My goal on the other trades was just to break even. I knew that the big money was going to be made on the trades that met my criteria. There will always be trades that meet those requirements, but there may be fewer of them, so you have to be much more patient.

                

Why are there fewer such trades? Has the marketplace gotten more sophisticated?

                

                

Yes. There are many more professional traders than in my early days. In those years, I had an edge just by knowing the angles that Ed Seykota and Amos Hostetter taught me. Now everybody knows those principles. You have trading rooms filled with bright people and computers.

                

In those days, you watched the board, and you would buy corn when it moved above a key chart point. An hour later the grain elevator operator would get a call from his broker and he might buy.

 The next day, the brokerage house would recommend the trade, pushing the market up some more. On the third day, we would get short covering from the people that were wrong, and then some fresh buying from the dentists of the world, who finally got the word that it was the right time to buy. At that time, I was one of the first ones to buy because I was one of the few professional traders playing the game. I would wind up selling out to the dentists several days later.

                

You’re talking about short-term trades. Weren’t you trading for the major moves?

                

                

I traded some major moves, but many times I would make my profits in two or three days in just that kind of trade.

                

When did you get back in the market?

                

                

Well, the dentists weren’t going to keep their positions, since they were buying at the wrong time. So when the market would fall back, I would go back in. Nowadays, the moment the market breaks a key  chart point, it is perceived by a whole universe of traders.

                

So the lagged follow-up trades are no longer there?

                

Right, the grain elevator operator has already bet. The dentists don’t count because their level of trading participation is infinitesimal.

                

Is that because they now have their money invested with fund managers instead of trading by themselves?

Right, and even if the dentists are still there, they are trading one-lots, which is a meaningless position when the fund managers are trading a thousand at a clip. Now you almost have to be contrary. You have to ask, “Isn’t it true that all my fellow professional traders are already in, so who is left to buy?” You didn’t have to worry about that before, because there was always somebody left to buy—the people who were getting the information or reacting slower. Now, everybody is just as decisive, just as fast.

                

Are the markets more prone to false breakouts now?

                

                

Yes, much more.

                

Are trend-following systems then doomed to mediocrity?

I believe so. I believe that the era of trend following is over until and unless there is a particular imbalance in a market that overrides everything else. [The 1988 drought in the grain belt, which developed shortly after this interview, provides a perfect example of the type of exception Marcus is describing.] Another exception would be if we were to enter a major inflationary or deflationary environment.

                

In other words, unless there is some very powerful force that can overwhelm everything else.

Yes.

                

Have the markets changed during the past five to ten years because professional money managers now account for a much greater proportion of speculative trading activity, as opposed to the small speculators who tend to make all the mistakes?

                

                

The markets have changed.The proof is that Richard Dennis, who has done well for many years, lost over 50 percent on the funds he was managing in 1988. The trend-following systems approach doesn’t work anymore. The problem is that once you have defined a trend and taken a position, everyone else has taken a position as well. Since there is no one left to buy, the market swings around in the other direction and gets you out.

One reason we don’t have many good trends anymore is that the central banks are preventing currency moves from getting out of hand by taking the other side of the trend.

                

Haven’t they always done that?

                

                

I don’t think so. If you look at a chart of Treasury debt held by foreign central banks, you will see that it has risen astronomically during the last few years. The foreign banks seem to be taking over from private foreign investors in financing our trade debts.

                

What do you think that means in terms of trading, and has your own trading style changed because of it?

                

                

At one time, I traded heavily in currencies. For example, in the years after Reagan was first elected and the dollar was very strong, I would take positions as large as 600 million Deutsche marks between my own account and the company account. At the time, that was about $300 million worth. That was a pretty good line. I was probably one of the bigger currency traders in the world, including the banks.

                

It was very exhausting because it was a twenty-four-hour market.

 When I went to sleep, I would have to wake up almost every two hours to check the markets. I would tune in every major center as it opened: Australia, Hong Kong, Zurich, and London. It killed my marriage. Nowadays, I try to avoid the currencies, because I feel it is a totally political situation; you have to determine what the central banks are going to do.

                

When you were trading the currencies actively, were you getting up through the night because you were worried about getting caught on the wrong side of a major move before the markets opened in the U.S.?

                

                

Yes.

                

Did you always trade that way, or did you get caught enough times so that you started trading around the clock?

                

                

It happened enough times to make me leery.

                

There would be a big gap move that you could have avoided by trading overseas?

                

                

That is right. For example, I remember one time, during late 1978, the dollar was getting battered, falling to new lows every day. This was during a period when I was cooperating and trading as a colleague with Bruce Kovner. We used to talk hours every day. One day, we noticed that the dollar got mysteriously strong. There was an intense price movement that couldn’t be explained by any known information. We just bailed out of our long currency positions like crazy. That weekend, President Carter announced a dollar support program. If we had waited until the next U.S. trading session, we would have been annihilated.

                

That situation illustrates one of the principles we believed in—namely, that the big players, including the governments, would always tip their hand. If we saw a surprise price move against us that we didn’t understand, we often got out and looked for the reason later.

                

I remember that market well. The currency futures  markets were locked limit-down for several days in a row after that announcement. You must have gotten out right near the top of that market.

                

                

We made a great exit on that trade. Anyway, my point is that I believe, as a courtesy, the European central banks are notified about major changes we are going to make, and they often act ahead of U.S. policy announcements. Consequently, the price move shows up in Europe first, even if it is because of something we initiate. If it’s an action initiated by the Europeans, the price move is certainly going to occur there first. I think the best hours to trade are often in Europe. If I had a period in which I was going to devote my life to trading, I would want to live in Europe.

                

Let’s go back and fill in some of your trading history. Where did you go after you decided to give up on being a floor trader?

                

                

I got a call from Amos Hostetter, who had befriended me at Shearson. At the time, he was also trading some money for Commodities Corporation. Amos told me that I would be well  advised to consider joining Commodities Corporation as a trader.

                

At the time, their theory was that they were going to hire all these great econometricians to be traders. They had people like Paul Samuelson on the board. They brought up the idea of hiring me at a meeting. The first question was, “What articles has he written; in what journals has he been published?” I had a B.A. in liberal arts and that was it. The punch line was, “He just trades.” Everybody thought that was very funny.

                

But weren’t they in business to make money trading?

                

                

They didn’t think it was possible to really make money unless you had a Ph.D. But Amos convinced them to give me a chance. I believe I was the first non-Ph.D. trader they had ever hired. They started me out with $30,000 in August 1974. After about ten years, I had turned that account into $80 million. Those were some very good years.

                

Did you multiply the original $30,000 into $80 million, or did they add money along the w

                

                

After the first few years, they gave me another $100,000 to trade. After that time, they were always taking money out. In those years, they were in an expansionary phase, and they taxed the traders 30 percent a year to pay for their expenses.

                

So you had to make 30 percent a year to keep your account level. You must have had some incredible return years, given the growth of your account—particularly under that handicap.

                

                

I was making at least 100 percent a year for years and years.

                

What was your best year?

                

My best year must have been 1979. It was an incredible year. I caught gold when it went up to over $800.

                

You caught the whole move?

I was in and out, but I remember catching big chunks of it—$100 per ounce at a time. It was a wild time. In those days, I would buy gold in Australia, Hong Kong would push it up $10 higher, it would go up another $10 in London, and by the time New York opened, I was able to sell out at a $30 profit.

                

It sounds like there was an enormous advantage to buying gold in the overseas markets rather than in the United States.

                

                

In those days, I had an advantage by being in California, because I was up trading in Hong Kong when my New York colleagues were asleep. I remember when I heard about the invasion of Afghanistan on the television news. I called Hong Kong to see if anybody knew about it, and nobody seemed to; the price wasn’t changing. I was able to buy 200,000 ounces of gold before anybody knew what was happening.

That’s 2,000 contracts! Did you have any liquidity problems with their taking on that size position in Hong Kong?

No, they gave me the stuff, but of course, they got fried by doing it. I was told on my last visit to Hong Kong that I shouldn’t visit the gold floor. Some of the people still remember that episode.

                

They knew who was on the other side of the trade?

                

                

Yes, they knew.

                

Did they think that you knew something?

No, they probably thought I was just crazy, coming in and buying all that gold. Then, when the news broke about five to ten minutes later, everybody started scrambling. I had an immediate $10 per ounce profit on 200,000 ounces.

                

It’s hard to believe you could trade off the television news.

I know. I had never done it before. That was the first, last, and only time, but I did do it.

                

That particular gold market ended in a near-vertical rise and fall. Did you get out in time?

Yes, I got out around $750 on the way up. I felt sick, when I saw gold go up to nearly $900. But later when it was back down to $400, I felt much better about it.

                

All in all, you got out very well. What tipped you off that we were near a top?

                

At that time, we had many wild markets. One of my rules was to get out when the volatility and the momentum became absolutely insane. One way I had of measuring that was with limit days. In those days, we used to have a lot of situations when a market would go limit-up for a number of consecutive days. On the third straight limit-up day, I would begin to be very, very cautious. I would almost  always get out on the fourth limit-up day. And, if I had somehow survived with any part of my position that long, I had a mandatory rule to get out on the fifth limit-up day. I just forced myself out of the market on that kind of volatility.

                

Your transition from being a losing trader to being very successful coincided with the big bull phase in the commodity markets during the early to mid-1970s. How much of your early success was due to your skills as a trader and how much was just the markets?

                

                

Honestly, I think the markets were so good, that by buying and holding you just couldn’t lose. There were a lot of other success stories. Fortunes were being made.

                

But a lot of those people didn’t keep their fortunes.

                

That’s true. But, I was very fortunate. By the time the markets got difficult again, I was a good trader. By then, I had really learned my craft.

Also, by that time, I had the advantage of having become very knowledgeable in one market: cocoa. For almost two years, I traded almost nothing but cocoa, because of the information and help I got from Helmut Weymar [the founder of Commodities Corporation]. Helmut was an incredible expert on cocoa. He wrote a book that was so deep I couldn’t understand the cover. Also, he had all kinds of friends in the business. With the knowledge and information I got from Helmut and his friends, I felt that I knew the universe of cocoa in a way that I had never known any market before.

That phase of almost exclusive cocoa trading obviously came to an end. What happened?

                

Helmut retired from cocoa trading.

                

I assume Helmut was not nearly as successful a trader as you were.

Let’s just say that I traded much better on Helmut’s information  than he did.

                

Excluding the early losing years, were there any trades that stand out as being particularly traumatic?

                

                

Well, I would never let myself get caught up in potentially intimidating disasters. The worst situation occurred during my heavy currency trading period. I was doing well and could afford to hold large positions. One time, I had a really large position in Deutsche marks when the Bundesbank came in and decided to punish the speculators. I called in just around the time that all this was happening and found out that I was out $2½ million in about five minutes. So I got out, rather than see the $2½ million loss go to $10 million. Then I had to endure the disturbing experience of watching the market recover its entire fall.

                

How long after you got out?

                

About half an hour.

                

Did you go back in?

                

No, they had taken the starch out of me by that point.

In retrospect, do you feel you did the right thing by getting out of that trade?

Yes, but it still hurt to realize that if I had sat it out and done nothing, I would have been OK instead of losing $2½ million.

                

Did you invest any of the money you were making in your trading, or did you keep plowing it back into your own account?

                

                

I made a number of bad investments and lost a fairly large chunk of the money I had made trading. When I was trading big, I wanted to have a reason to keep doing it, so I just spent money wildly. At one  time, I owned about ten houses and ended up losing money on all of them. Some I sold before I had even spent a single night in them. I had a plane charter service and lost a lot of money on that. At one point, I figured out that for every dollar I made trading, 30 percent was going to the government, 30 percent was going to support my planes, and 20 percent was going to support my real estate. So I finally decided to sell everything.

                

It sounds like as wise as you were as a trader, you were naive as an investor.

                

                

Yes, I was incredibly naive. Out of a fairly large number of real estate transactions—many in California—I lost money on all but one of them. I am probably the only person alive that can claim that dubious distinction.

                

Why do you think you did so poorly on your investments?

                

                

I would do everything emotionally. I didn’t analyze anything.

In a sense, you were repeating the mistake of your early trading experience: getting involved in something you knew nothing about and then losing money. Didn’t any bells go off? It almost sounds like you had a self-destructive instinct in losing your money elsewhere.

                

                

Yes, absolutely. I probably lost more than half the money I made.

                

During this period when you were doing all these unwise things, didn’t anybody try to grab you by the shoulders and say, “Do you realize what you’re doing?”

                

                

Yes, but any time someone on my staff did, I would fire them. At one time, I was employing sixty or seventy people. In addition to all my money-losing businesses, I had a huge nut to make to just support the payroll. Frankly, a lot of the money I made just went down the drain.

                

Did these losses have any of the emotional impact of  losses in the market? The reason I ask is that you seem to talk about these investment losses very dispassionately.

                

Yes, it hurt to realize what a fool I had been, but I have learned not to be as attached to material things. I accepted it as a life lesson. I learned I don’t have to own a house in every beautiful place in the world; I can stay at a hotel and walk on the beach or climb a trail there. Or, if I really feel like spoiling myself, I can charter a plane; I don’t have to own one.

Right, that certainly makes sense, but what I am getting at is that I suspect that if you had lost the same amount of money trading, it would have been a much more traumatic experience. Is that because your ego wasn’t attached to these other ventures?

                

                

Yes, I’m sure that’s true. I always felt that, at least, I was smart at one thing. I feel like trading is the only thing I am really good at. If not for that, I probably would have wound up shining shoes.

Do you think being a great trader is an innate skill?

                

I think to be in the upper echelon of successful traders requires an innate skill, a gift. It’s just like being a great violinist. But to be a competent trader and make money is a skill you can learn.

                

Having been through the whole trading experience from failure to extreme success, what basic advice could you give a beginning trader or a losing trader?

                

                

The first thing I would say is always bet less than 5 percent of your money on any one idea. That way you can be wrong more than twenty times; it will take you a long time to lose your money. I would emphasize that the 5 percent applies to one idea. If you take a long position in two different related grain markets, that is still one idea.

                

The next thing I would advise is to always use stops. I mean actually put them in, because that commits you to get out at a certain point.

                

Do you always pick a point where you will get out before you get in?

                

                

Yes, I have always done that. You have to.

                

I would imagine in your case you can’t actually put a stop in because your orders are too large.

                

                

Yes, but my broker can hold it.

                

When you place an order to get into a position, is it accompanied by an order to get out?

                

                

That’s right. Another thing is that if a position doesn’t feel right as soon as you put it on, don’t be embarrassed to change your mind and get right out.

So, if you put the trade on and five minutes later it doesn’t feel right, don’t think to yourself, “If I get out this quickly, my broker will think that I’m an idiot.”

                

Yes, exactly. If you become unsure about a position, and you don’t know what to do, just get out. You can always come back in. When in doubt, get out and get a good night’s sleep. I’ve done that lots of times and the next day everything was clear.

                

Do you sometimes go back in right after you get out?

Yes, often the next day. While you are in, you can’t think. When you get out, then you can think clearly again.

                

What other advice would you give the novice trader?

                

Perhaps the most important rule is to hold on to your winners and  cut your losers. Both are equally important. If you don’t stay with your winners, you are not going to be able to pay for the losers.

                

You also have to follow your own light. Because I have so many friends who are talented traders, I often have to remind myself that if I try to trade their way, or on their ideas, I am going to lose. Every trader has strengths and weaknesses. Some are good holders of winners, but may hold their losers a little too long. Others may cut their winners a little short, but are quick to take their losses. As long as you stick to your own style, you get the good and bad in your own approach. When you try to incorporate someone else’s style, you often wind up with the worst of both styles. I’ve done that a lot.

                

Is it a problem because you don’t have the same type of confidence in a trade that isn’t yours?

                

                

Exactly. In the final analysis, you need to have the courage to hold the position and take the risk. If it comes down to “I’m in this trade because Bruce is in it,” then you are not going to have the courage to stick with it. So you might as well not be in it in the first place.

                

Do you still talk to other traders about markets?

                

Not too much. Over the years, it has mostly cost me money. When I talk to other traders, I try to keep very conscious of the idea that I have to listen to myself. I try to take their information without getting overly influenced by their opinion.

                

I assume that we are talking about very talented traders, and it still doesn’t make a difference. If it is not your own idea, it messes up your trading?

Right. You need to be aware that the world is very sophisticated and always ask yourself: “How many people are left to act on this particular idea?” You have to consider whether the market has already discounted your idea.

                

How can you possibly evaluate that?

By using the classic momentum-type indicators and observing market tone. How many days has the market been down or up in a row? What is the reading on the sentiment indexes?

                

Can you think of any good examples of market tone tipping you off on a trade?

                

                

The most classic illustration I can think of is one of the soybean bull markets in the late 1970s. At the time, soybeans were in extreme shortage. One of the things pushing the market up was the weekly government reports indicating strong export commitments and sales. I was holding a heavy long position in soybeans and someone from Commodities Corporation called me with the latest export figures. He said, “I have good news and I have bad news.” I said, “OK, what is the good news?” “The good news is that the export commitment figure was fantastic. The bad news is that you don’t have a limit position [the maximum permissible speculative position size].” They were expecting the market to be limit-up for the next three days.

                

Actually, I wound up being a little depressed that I didn’t have a  larger position. The next morning, I entered an order to buy some more contracts on the opening, just in case I got lucky and the market traded before locking limit-up. I sat back to watch the fun. The market opened limit-up as expected. Shortly after the opening, I noticed a lot of ticks being recorded, as if the market was trading at the limit-up. Then prices eased off limit-up just as my broker called to report my fills. The market started trading down. I said to myself, “Soybeans were supposed to be limit-up for three days, and they can’t even hold limit-up the first morning.” I immediately called my broker and frantically told him to sell, sell, sell!

                

Did you get out of your whole position?

                

                

Not only that, but I was so excited that I lost count of how much I was selling. I accidentally wound up being short a substantial amount of soybeans, which I bought back 40 to 50 cents lower. That was the only time I made a lot of money on an error.

                

I remember a situation just like that. It was the cotton bull market when prices almost reached $1 a pound. To this day, I recall I was long cotton and the week’s export figure came out showing a half million bales of exports to China.

 It was the most bullish cotton export figure I had ever seen. But instead of opening limit-up the next day, the market opened only about 150 points higher and then started trading off. That proved to be the exact high.

                

                

Another interesting example, I remember, occurred when we were in a very inflationary period and all the commodity markets were trading in lockstep fashion. On one particularly powerful day, almost all the markets went limit-up. On that day, cotton opened limit-up, fell back, and finished only marginally higher for the day. That was the market peak. Everything else stayed locked limit-up, but cotton never saw the light of day again.

                

Is the implied rule that if you find a common behavior between markets, you want to sell the one that is lagging as soon as it starts heading down?

                

                

You absolutely want to put down a bet when a market acts terribly relative to everything else. When the news is wonderful and a market can’t go up, then you want to be sure to be short.

                

What kinds of misconceptions about the markets get people into trouble?

                

Well, I think the leading cause of financial disablement is the belief that you can rely on the experts to help you. It might, if you know the right expert. For example, if you happen to be Paul Tudor Jones’ barber, and he is talking about the market, it might not be a bad idea to listen. Typically, however, these so-called “experts” are not traders. Your average broker couldn’t be a trader in a million years. More money is lost listening to brokers than any other way. Trading requires an intense personal involvement. You have to do your own homework, and that is what I advise people to do.

                

Any other misconceptions?

                

The foolish belief that there is conspiracy in the markets. I have known many of the great traders in the world, and I can say that 99 percent of the time, the market is bigger than anybody and, sooner or later, it goes where it wants to go. There are exceptions, but they don’t last too long.

You have attributed a lot of your success to Ed and Amos who taught you the principles of trading. Have you, in turn, taught other traders?

                

                

Yes. My best result, in terms of his becoming the best trader I ever worked with, as well as being a close friend, is Bruce Kovner.

                

How much of his success do you attribute to your training, and how much of it was just his own talent?

                

When I first met Bruce, he was a writer and a professor; in his spare time, he was doing some trading. I was staggered by the breadth of trading knowledge he had accumulated in such a short time. I remember the first day I met Bruce I tried to impress him with complicated concepts. Here I was, a professional trader who, in those days, spent fifteen hours a day trading and analyzing the markets, and I couldn’t come up with anything that he couldn’t understand. I recognized his talent immediately.

                

That relates to his intellect, but was there something about him that told you that he was going to be a good trader?

                

                

Yes, his objectivity. A good trader can’t be rigid. If you can find somebody who is really open to seeing anything, then you have found the raw ingredient of a good trader—and I saw that in Bruce right away. I knew from the moment I first met him that he was going to be a great trader.

                

What I tried to do was convey to Bruce the principles that Ed and Amos had taught me, along with some of my acquired skills. My best trading occurred when Bruce and I were collaborating; we did some phenomenal trading. There were years when I was up 300 percent and he was up 1,000 percent. He had a very great gift.

                

Do you feel you get ground down as a trader?

                

                

Absolutely. Around 1983, I began to taper off in my trading. I felt  that I needed to recharge my batteries.

                

                How important is gut feel in trading?

                

                

                Gut feel is very important. I don’t know of any great professional trader that doesn’t have it. Being a successful trader also takes courage: the courage to try, the courage to fail, the courage to succeed, and the courage to keep on going when the going gets tough.

                

                Do you have any goals aside from trading at this point?

                

                

                I have taken karate for many years. I am already at a high level, but I would like to get the black belt. Also, I have made a study of spiritual traditions and there is a bit more work I would like to do with that.

                

                You sound very vague about it. Do you want to be vague?

                

                

                It is very hard to talk about this. Let me see how I can put it. Albert Einstein said that the single most important question is whether the universe is friendly. I think it is important for everybody to come to a point where they feel inside that the universe is friendly.

                

                Are you there now?

                

                

                I’m a lot closer.

                

                But that’s not where you started off?

                

                

                No. I started off with the feeling that it was an unfriendly place.

                

                Do you see yourself trading ten or twenty years from now?

                

                

                Yes, it’s too much fun to give up. I don’t want to make a lot more money. I would probably just end up losing it in real estate again.

                

                Is the fun aspect still there if you are doing it thirteen hours a day?

                

                

                No. If trading is your life, it is a torturous kind of excitement. But if you are keeping your life in balance, then it is fun. All the successful traders I’ve seen that lasted in the business sooner or later got to that point. They have a balanced life; they have fun outside of trading. You can’t sustain it if you don’t have some other focus. Eventually, you wind up overtrading or getting excessively disturbed about temporary failures.

                

                When you do hit a losing streak, how do you handle it?

                

                

                In the past, I’ve sometimes tried to fight back by trading even heavier after I start losing, but that usually doesn’t work. Then I start cutting down very fast to the point of stopping completely if it  gets bad enough. But usually it never gets that bad.

                

                Do you sometimes manage to fight your way out of it?

                

                

                Sometimes, but most of the time I would have been better off if I had just stopped. I’ve had trouble bringing myself to do that, because I am a natural fighter. The typical pattern is: Lose, fight like hell, lose again, then cut back, or sometimes stop, until I get on a winning track.

                

                How long have you stopped for?

                

                

                Usually three, four weeks.

                

                When you are in a losing streak, is it because you are out of sync with the markets, or is there a better way to describe it?

                

                

                I think that, in the end, losing begets losing. When you start losing, it touches off negative elements in your psychology; it leads to pessimism.

                

                There are very few traders who have been as successful as you. What do you think makes you different?

                

                

                I am very open-minded. I am willing to take in information that is difficult to accept emotionally, but which I still recognize to be true. For example, I have seen others make money much faster than I have only to wind up giving everything back, because when they started losing, they couldn’t stop. When I have had a bad losing streak, I have been able to say to myself, “You just can’t trade anymore.” When a market moves counter to my expectations, I have always been able to say, “I had hoped to make a lot of money in this position, but it isn’t working, so I’m getting out.”

                

                Do you keep track of your equity on a day-to-day basis? Do you actually plot it?

                

                

                I have done that a lot in the past.

                

                Is that helpful? Do you think it’s a good idea for traders to plot their equity?

                

                

                I think so. If the trend in your equity is down, that is a sign to cut back and reevaluate. Or if you see that you are losing money a lot faster than you made it, that would be a warning.

                

                Are there any advisors you pay attention to?

                

                

                My favorite market letter in terms of readability, imagination, and knowledge of the subject is the California Technology Stock Letter (CTSL Publishing Partners, 155 Montgomery Street, Suite 1401, San Francisco, CA 94104). I also like the market letters put out by Marty Zweig (The Zweig Letter, The Zweig Forecast, P.O. Box 360, Bellmore, NY 11710) and Richard Russell (Dow Theory Letters, Dow Theory Letters Inc., P.O. Box 1759, LaJolla, CA 92038).

                

                Of the traders I have interviewed, Zweig is probably the one most mentioned.

                

                

                You always get something of value out of Marty Zweig. He is very solid.

                

                Judging by the letters you have mentioned, I take it that you trade stocks as well. How long have you been trading stocks?

                

                

                For about the last two years.

                

                Do you trade stocks differently than you trade futures?

                

                

                I’m more patient.

                

                Is the selection process different?

                

                

                No, I look for confirmation from the chart, the fundamentals, and the market action. I think you can trade anything in the world that way.

                

                Do you focus on any particular types of stock?

                

                

                I don’t trade the Dow stocks. I prefer the little ones, because they are not dominated by the big professional traders who are like sharks eating each other. The basic principle is that it is better to trade the Australian dollar than the Deutsche mark, and the small OTC stock than the big Dow stock.

                

                What are the fundamentals you look for in a stock?

                

                

                I like to use something I found in Investor’s Daily: the earnings per share (EPS). [The EPS ranking is based on comparing the earnings per share growth of a stock relative to all other stocks. For more details on the EPS, see the William O’Neil and David Ryan interviews.] I combine the EPS with my own sense of market share potential. If a company has already saturated their little niche in the world, a high EPS is not that important. But, in those issues where the EPS is growing, and there is still plenty of pie out there, the situation is much more attractive.

                

                I also like to look at the price/earnings (P/E) ratio in conjunction with the EPS. In other words, while I like to see a company with a strong earnings growth pattern, I also want to know how much the market is paying for that earnings growth pattern.

                

                So you like seeing a high EPS with a low P/E.

                

                

                Yes. That’s the best combination. I am sure there is a way of combining the two on a computer and coming up with a very good system.

                

                How about the relative strength[a measure of a stock's price performance relative to all other stocks], which is another key indicator inInvestor’s Daily?

                

                

                I don’t think that helps that much. Relative strength tells you what a stock has already done. Frequently, by the time you get a high relative strength figure, the stock has exhausted itself.

                

                Is there anything else you look for in a stock?

                

                

                I look at the basic industry. For example, right now [May 1988], I happen to be bullish on tanker rates and, therefore, the shipping business.

                

                For what reasons?

                

                

                Supply and demand. Tanker rates are like commodity prices; they follow a classic cyclical pattern. Prices get high and everyone makes a lot of money, so they build a lot of ships and prices go down. Eventually the ships are scrapped and prices go back up again. We have had very low rates for many years and have scrapped a lot of tankers annually. So we are entering that part of the cycle where prices go back up again.

                

                Does trading become more difficult as the size of the account gets bigger?

                

                

                Yes, because you are forced to compete in fewer and fewer markets that are being traded by other big professionals.

                

                How much common behavior is there between different markets? For example, can you trade bonds in the same way you trade corn?

                

                

                I really feel that if you can trade one market, you can trade them all. The principles are the same. Trading is an emotion. It is mass psychology, greed, and fear. It is all the same in every situation.

                

                

                        

                

                

                For most great traders, early failure is more the rule than the exception. Despite an incredible long-term performance record, Michael Marcus began his trading career with an unbroken string of trading losses. Moreover, he wiped out not just once, but several times. The moral is: Early trading failure is a sign that you are doing something wrong; it is not necessarily a good predictor of ultimate potential failure or success.

                

                I found it particularly interesting that, despite a number of painful trading losses, Marcus’ most devastating experience was actually a profitable trade in which he got out prematurely. Taking advantage of potential major winning trades is not only important to the mental health of the trader, but is also critical to winning. In the interview, Marcus stressed that letting winners ride is every bit as important as cutting losses short. In his own words, “If you don’t stay with your winners, you are not going to be able to pay for the losers.”

                

                Marcus learned about the dangers of overtrading the hard way. In one instance (the grain trade in the nonexistent corn blight year), an account he had built up from a very small stake to $30,000 was wiped out by betting all his money on a single trade. He made the same mistake a second time in the lumber market, coming to the brink of disaster before narrowly escaping. These experiences had a dramatic impact on Marcus’ trading philosophy. It is no accident that the first rule he cites when asked to give advice to the average trader is: Never commit more than 5 percent of your money to a single trade idea.

                

                In addition to not overtrading, Marcus stresses the importance of committing to an exit point on every trade. He feels that protective stops are very important because they force this commitment on the trader. He also recommends liquidating positions to achieve mental clarity when one is losing money and is confused regarding market decisions.

                

                Marcus also emphasizes the necessity of following your own mind as a trader. He suggests that following the advice of others, even when they are good traders, often leads to problems as it combines the worst elements of both traders.

                

                Finally, despite being an aggressive trader, Marcus strongly believes in being restrictive in selecting trades. He advises waiting for those trades in which all the key elements line up in one direction. By doing so you greatly enhance the probability of success on each trade. Making lots of trades when the conditions appear to be only marginally in favor of the trade idea has more to do with entertainment than trading success.

==================================

Bruce Kovner :The World Trader

                

                Today, Bruce Kovner may well be the world’s largest trader in the interbank currency and futures markets. In 1987 alone, he scored profits in excess of $300 million for himself and the fortunate investors in his funds. During the past ten years, Kovner has realized a remarkable 87 percent averaged annual compounded return. Two thousand dollars invested with Kovner in early 1978 would have been worth over $1,000,000 ten years later.

                

                Despite his incredible track record and huge trading size, Kovner has managed to keep a surprisingly low profile. He has assiduously pursued his privacy by steadfastly refusing all interview requests. “You might be wondering why I consented to this interview,” he said. As a matter of fact, I was, but I did not want to raise the question. I had assumed that his agreement reflected a vote of confidence and trust. Seven years earlier, our paths had crossed briefly when we both worked at Commodities Corporation—he as one of the firm’s principal traders, I as an analyst.

                

                Kovner continued, “It seems like I can’t avoid some publicity, and the stories are usually distorted and fanciful. I thought that this interview would help establish at least one accurate record.”

                

                Kovner hardly fits the intuitive image of a trader who typically holds positions with a total face value measured in billions of dollars. With his incisive intellect and easygoing manner, he reminds one more of a professor than a giant-scale trader in the highly leveraged currency and futures markets. Indeed, Kovner started out as an academic.

                

                After graduating from Harvard, Kovner taught political science courses at Harvard and the University of Pennsylvania. Although he liked teaching, he was not enthused with the academic life. “I didn’t enjoy the process of always confronting a blank page in the morning and thinking of something brilliant to write.”

                

                In the early 1970s, Kovner managed a number of political campaigns, with the idea of eventually running for office himself. He abandoned politics because he didn’t have the financial resources, or the desire to work his way up the political ladder from committee jobs. During this time he also worked as a consultant for various state and federal agencies.

                

                Still searching for a career direction, Kovner shifted his attention to the financial markets in the mid-1970s. He believed that his economics and political science education provided the right background, and he found the idea of analyzing the world to make trading judgments tremendously appealing. For about a year, Kovner immersed himself in studying markets and the related economic theory. He read everything he could get his hands on.

                

                One subject he studied intensively was interest rate theory. “I fell in love with the yield curve.” [The yield curve is the relationship between the yield on government securities and their time to maturity. For example, if each successively longer-term maturity provided a higher yield than a shorter-term maturity—for example, five-year T-notes at a higher yield than one-year T-bills—the yield curve would reflect a continually rising slope on a graph.]

                

                Kovner’s study of the interest rate markets coincided with the initial years of trading in interest rate futures. At that time, the interest rate futures market was relatively unsophisticated and price distortions, which would be quickly eradicated by arbitrageurs today, persisted over time. As Kovner explains it, “The market hadn’t become important enough for CitiBank or Solomon Brothers, but it was important enough for me.”

                

                One of the primaiy anomalies Kovner discovered was related to the price spread (difference) between different futures contracts. Futures are traded for specific months (for example, March, June, September, and December). Given the prevailing phase of the business cycle, interest rate theory predicted that the nearby contract (for example, March) should trade at a higher price (lower yield) than the next contract (for example, June). Although the nearest two contracts did indeed tend to reflect this relationship, Kovner found that the price difference between more forward contracts often started trading at near-zero levels. His first trade involved buying a forward interest rate contract and selling a more forward contract, in the expectation that, as the purchased contract became the nearby contract with the passage of time, the price spread between the two contracts would widen.

                

                That first trade worked just according to textbook theory and Kovner was hooked as a trader. His second trade also involved an intra-market spread [the purchase of one contract against the sale of another contract in the same market]. In this case, he bought the nearby copper contract and sold a more forward contract, in the expectation that supply tightness would cause the nearby copper contract to gain relative to the forward position. Although his idea eventually proved right, he was too early and lost money on that trade. At the end of these two trades, Kovner was still ahead, with his original $3,000 stake having grown to about $4,000.

                

                

                        

                

                

                My third trade is what really put me in the business. In early 1977, an apparent shortage was developing in the soybean market. It was a demand driven market. Every week the crush was higher than expected and nobody believed the figures. [The crush is the amount of soybeans processed for use as soybean meal and soybean oil.] I was watching the July/November spread [the price difference between the old crop July contract and the new crop November contract]. Since it looked like we were going to run out of soybeans, I thought that the old crop July contract would expand its premium to the new crop November contract. This spread had been trading in a narrow consolidation near 60-cents premium July. I figured I could easily stop myself out just below the consolidation at around a 45-cents premium. At the time, I didn’t realize how volatile the spread could be. I put on one spread [that is, bought July soybeans and simultaneously sold November soybeans] near 60 cents and it widened to 70 cents. Then I put on another spread. I kept on pyramiding.

                

                

                How big of a position did you build up?

                

                

                I eventually built up to a position of about fifteen contracts, but not before I had to switch brokerage firms. When I started out, I was trading at a small brokerage house. The head of the company, who was an old floor trader, went over the trades every day and spotted what I was doing. By that time, I had built my position up to about ten or fifteen contracts. The margin on a single outright contract was $2,000, while the spread margin was only $400.

                

                He told me, “The spread position you have on trades is like an outright long position. I am going to raise your margins from $400 to $2,000 per contract.” [Spread margins are lower than outright margins, reflecting the assumption that a net long or short position will be considerably more volatile than a spread position. Reason: In a spread, the long contract portion of the position is likely to at least partially offset price movement in the short contract position. In a shortage situation, however, an intercrop spread, such as long July soybeans/short November soybeans can prove to be nearly as volatile as a net long or short position.]

                

                He was obviously quite concerned with the risk in your position.

                

                

                Yes. He was concerned that I had only put up $400 margin per spread, on a spread which behaved like a net long position.

                

                Actually, he wasn’t that far off.

                

                

                He was right, but I was furious. So I moved my account to another brokerage firm, which shall remain nameless, for reasons that will soon become clear.

                

                You were furious because you felt he was being unfair, or—

                

                

                Well, I am not sure I thought he was being unfair, but I certainly knew he was an obstacle to my objective. I moved my account to a major brokerage house, and got a broker who was not very competent. The market kept moving up and I kept adding to my position. I had put on my first spread on February 25; by April 12, my account was up to $35,000.

                

                Were you just adding to your position as the market went up, or did you have some plan?

                

                

                I had a plan. I would wait until the market moved up to a certain level and then retraced by a specified amount before adding another unit. My pyramiding did not turn out to be the problem.

                

                The market had entered a string of limit-up moves. On April 13, the market hit a new record high. The commotion was tremendous. My broker called me at home and said, “Soybeans are going to the moon. It looks like July is going limit-up, and November is sure to follow. You are a fool to stay short the November contracts. Let me lift your November shorts for you, and when the market goes limit-up for the next few days, you will make more money.” I agreed, and we covered my November short position.

                

                All of it?!

                

                

                All of it [he laughs loudly].

                

                Was this a spur of the moment decision?

                

                

                It was a moment of insanity. Fifteen minutes later, my broker calls me back, and he sounds frantic. “I don’t know how to tell you this, but the market is limit-down! I don’t know if I can get you out.” I went into shock. I yelled at him to get me out. The market moved off of limit-down by a little bit and I got out.

                

                Did you end up getting out at limit-down?

                

                

                I got out between limit-down and slightly above limit-down. I can tell you the dimensions of the loss. At the moment I covered my short November position leaving myself net long July, I was up about $45,000. By the end of the day, I had $22,000 in my account. I went into emotional shock. I could not believe how stupid I had been—how badly I had failed to understand the market, in spite of having studied the markets for years. I was sick to my stomach, and I didn’t eat for days. I thought that I had blown my career as a trader.

                

                But you still had $22,000 compared to your original stake of only $3,000. Keeping things in perspective, you were still in pretty good shape.

                

                

                Absolutely. I was in good shape, but—

                

                Was it the stupidity of the mistake or was it the money that you had given back that caused such emotional pain?

                

                

                No, it wasn’t the money at all. I think it was the realization that there really was “fire” there. Until then, I had ridden $3,000 to $45,000 without a moment of pain.

                

                On the way up, did you think, “This is easy”?

                

                

                It was easy.

                

                Did you give any thought to the possibility that the market streak could eventually go the other way?

                

                

                No, but clearly, my decision to lift the short side of my spread position in the middle of a panic showed a complete disregard for risk. I think what bothered me so much was the realization that I had lost a process of rationality that I thought I had. At that moment, I realized that the markets were truly capable of taking money away every bit as fast as they gave it to you. That made a very strong impression on me. Actually, I was very lucky to get out with $22,000.

                

                I assume that your quick action that day probably averted a complete disaster.

                

                

                Absolutely. After that day, the market went straight down as fast as it had gone up. Perhaps, if I hadn’t made my stupid mistake, I might have made the mistake of riding the market down.

                

                What eventually happened to the spread?

                

                

                The spread collapsed. Eventually, it went below the level that I had first begun buying it at.

                

                Since you liquidated your position on the day the market and the spread topped, you would have given back a portion of the profits even if it wasn’t for the disastrous decision that forced you out of the market.

                

                

                That may be true, but for me, that was my “going bust” trade. It was the closest I ever came to going bust and, psychologically, it felt as if I had.

                

                Was that your most painful trade?

                

                

                Yes. Far and away.

                

                Even though you actually ended up making a substantial amount of money on the trade?

                

                

                I multiplied my money by nearly sixfold on that trade. I was, of course, insanely leveraged, and I didn’t understand how risky my position was.

                

                Was getting out of your entire position immediately after your broker called to tell you the market was limit-down a matter of panic, or do you think you had some instinctive common sense about controlling risk?

                

                

                I’m not sure. At that moment, I was confronted with the realization that I had blown a great deal of what I thought I knew about discipline. To this day, when something happens to disturb my emotional equilibrium and my sense of what the world is like, I close out all positions related to that event.

                

                Do you have a recent example?

                

                

                October 19, 1987—the week of the stock market crash. I closed out all my positions on October 19 and 20 because I felt there was something happening in the world that I didn’t understand. The first rule of trading—there are probably many first rules—is don’t get caught in a situation in which you can lose a great deal of money for reasons you don’t understand.

                

                Let’s get back to the period after your soybean trade. When did you start trading again?

                

                

                About a month later. After a few months I had my account back to about $40,000. Around that time, I answered an ad for a trading assistant position at Commodities Corporation. I was interviewed by Michael Marcus in his usual idiosyncratic manner. He had me return to Commodities Corporation several weeks later. “Well,” he said, “I have some good news and some bad news. The bad news is that we are not hiring you as a trading assistant; the good news is that we are hiring you as a trader.”

                

                How much money did Commodities Corporation give you to trade?

                

                

                Thirty-five thousand dollars.

                

                Were you trading your own money, as well, at the same time?

                

                

                Yes, and that is something I am very glad about. Commodities Corporation had a policy that allowed you to trade your personal account, as well as the company account, and Michael and I were very aggressive traders.

                

                Were you influenced by Michael?

                

                

                Oh, yes, very much. Michael taught me one thing that was incredibly important [pause].

                

                That is a great lead-in. What is the punch line?

                

                

                He taught me that you could make a million dollars. He showed me that if you applied yourself, great things could happen. It is very easy to miss the point that you really can do it. He showed me that if you take a position and use discipline, you can actually make it.

                

                It sounds like he gave you confidence.

                

                

                Right. He also taught me one other thing that is absolutely critical: You have to be willing to make mistakes regularly; there is nothing wrong with it. Michael taught me about making your best judgment, being wrong, making your next best judgment, being wrong, making your third best judgment, and then doubling your money.

                

                You are one of the most successful traders in the world. There are only a small number of traders of your caliber. What makes you different from the average guy?

                

                

                I’m not sure one can really define why some traders make it, while

 others do not. For myself, I can think of two important elements. First, I have the ability to imagine configurations of the world different from today and really believe it can happen. I can imagine that soybean prices can double or that the dollar can fall to 100 yen. Second, I stay rational and disciplined under pressure.

                

                Can trading skills be taught?

                

                

                Only to a limited extent. Over the years, I have tried to train perhaps thirty people, and only four or five of those have turned out to be good traders.

                

                What happened to the other twenty-five?

                

                

                They are out of the business—and it had nothing to do with intelligence.

                

                When you compare the trainees that made it to the majority who did not, do you find any distinguishing traits?

                

                

                They are strong, independent, and contrary in the extreme. They are able to take positions others are unwilling to take. They are disciplined enough to take the right size positions. A greedy trader always blows out. I know some really inspired traders who never managed to keep the money they made. One trader at Commodities Corporation—I don’t want to mention his name—always struck me as a brilliant trader. The ideas he came up with were wonderful; the markets he picked were often the right markets. Intellectually, he knew markets much better than I did, yet I was keeping money, and he was not.

                

                So where was he going wrong?

                

                

                Position size. He traded much too big. For every one contract I traded, he traded ten. He would double his money on two different occasions each year, but still end up flat.

                

                Do you always use fundamental analysis in forming your trading decisions?

                

                

                I almost always trade on a market view; I don’t trade simply on technical information. I use technical analysis a great deal and it is terrific, but I can’t hold a position unless I understand why the market should move.

                

                Is that to say that virtually every position you take has a fundamental reason behind it?

                

                

                I think that is a fair statement. But I would add that technical analysis can often clarify the fundamental picture. I will give you an example. During the past six months, I had good arguments for the Canadian dollar going down, and good arguments for the Canadian dollar going up. It was unclear to me which interpretation was correct. If you had put a gun to my head and forced me to choose a market direction, I probably would have said “down.”

                

                Then the U.S./Canadian trade pact was announced, which changed the entire picture. In fact, the market had broken out on the upside a few days earlier, as the negotiations were finishing up. At that instant, I felt completely comfortable saying that one of the major pieces in the valuation of the Canadian dollar had just changed, and the market had already voted.

                

                Prior to the agreement, I felt the Canadian dollar was at the top of a hill, and I wasn’t sure whether it was going to roll backwards or forwards. When the market moved, I was prepared to go with that movement because we had a conjunction of two important elements: a major change in fundamentals (although, I wasn’t smart enough to know in which direction it would impact the market), and a technical price breakout on the upside.

                

                What do you mean you weren’t smart enough to know in which direction the trade pact announcement would move the market? Since U.S./Canadian trade is so much a larger component of Canadian trade than it is of U.S. trade, wouldn’t it have been logical to assume that the trade pact would be bullish for the Canadian dollar?

                

                

                It didn’t have to happen that way. I could just as easily have argued that the trade pact was negative for the Canadian dollar because the elimination of the trade barriers would allow imports from the U.S. to submerge Canadian interests. There are still some analysts who adhere to that argument. My point is that there are well-informed traders who know much more than I do. I simply put things together. They knew which way to go, and they voted in the marketplace by buying Canadian dollars.

                

                Is the generalization of that example that when an important fundamental development occurs, the initial direction of the market move is often a good tip-off of the longer-term trend?

                

                

                Exactly. The market usually leads because there are people who know more than you do. For example, the Soviet Union is a very good trader.

                

                Good trader in which markets?

                

                

                In currencies, and grains to some degree.

                

                How does one know what the Soviets are doing?

                

                

                Because the Soviets act through commercial banks and dealers, and you hear about it.

                

                It seems rather contradictory to me that a country that is so poor in running its own economy should be a good trader.

                

                

                Yes, but if you ask people in the business, you will find out that they are.

                

                Why, or how?

                

                

                It is a joke, but perhaps they do read some of our mail. The Soviets (and other governments) occasionally have advance information. Why shouldn’t they? They have the best developed intelligence service in the world. It is a well known fact in the intelligence community that the Soviets (and others) are capable of eavesdropping on commercial communication. That is why the large commodity trading firms sometimes use scramblers when they are making very sensitive calls.

                

                My point is that there are thousands of difficult-to-understand mechanisms that lead the market, which come into play before the news reaches some poor trader sitting at his desk. But the one thing that does hit the market is a huge sale or purchase.

                

                Isn’t that the basic rationalization for technical analysis?

                

                

                Technical analysis, I think, has a great deal that is right and a great deal that is mumbo jumbo.

                

                That’s an interesting statement. What’s right and what’s black magic?

                

                

                There is a great deal of hype attached to technical analysis by some technicians who claim that it predicts the future. Technical analysis tracks the past; it does not predict the future. You have to use your own intelligence to draw conclusions about what the past activity of some traders may say about the future activity of other traders.

                

                For me, technical analysis is like a thermometer. Fundamentalists who say they are not going to pay any attention to the charts are like a doctor who says he’s not going to take a patient’s temperature. But, of course, that would be sheer folly. If you are a responsible participant in the market, you always want to know where the market is—whether it is hot and excitable, or cold and stagnant. You want to know everything you can about the market to give you an edge.

                

                Technical analysis reflects the vote of the entire marketplace and, therefore, does pick up unusual behavior. By definition, anything that creates a new chart pattern is something unusual. It is very important for me to study the details of price action to see if I can observe something about how everybody is voting. Studying the  charts is absolutely crucial and alerts me to existing disequilibria and potential changes.

                

                Do you sometimes put on a trade because you look at a chart and say, “I’ve seen this pattern before, and it is often a forerunner of a market advance.” That is, even though you may not have any fundamental reasons?

                

                

                Yes, I will do that sometimes. I would only add that, as a trader who has seen a great deal and been in a lot of markets, there is nothing disconcerting to me about a price move out of a trading range that nobody understands.

                

                Does that imply you usually go with breakouts?

                

                

                Sure.

                

                But the markets are often prone to false breakouts. There has to be more to it than that.

                

                

                Tight congestions in which a breakout occurs for reasons that nobody understands are usually good risk/reward trades.

                

                How about breakouts that occur because there is a story in theWall Street Journal That day?

                

                

                That would be much less relevant. The Heisenberg principle in physics provides an analogy for the markets. If something is closely observed, the odds are it is going to be altered in the process. If corn is in a tight consolidation and then breaks out the day the Wall Street Journal carries a story about a potential shortage of corn, the odds of the price move being sustained are much smaller. If everybody believes there is no reason for corn to break out, and it suddenly does, the chances that there is an important underlying cause are much greater.

                

                It sounds like you are saying that the less explanation there is for a price move occurring, the better it looks.

                

                

                Well, I do think that. The more a price pattern is observed by speculators, the more prone you are to have false signals. The more a market is the product of nonspeculative activity, the greater the significance of technical breakouts.

                

                Has the greatly increased use of computerized trend-following systems increased the frequency of false technical signals?

                

                

                I think so. The fact that there are billions of dollars out there trading on technical systems that use moving averages or other simple pattern recognition approaches helps produce many more false signals. I have developed similar systems myself, so that I can tell when the other systems are going to kick in. If it is clear that prices are moving because these billions are kicking into the market, it is a lot less interesting than if a breakout occurs because the Russians are buying.

                

                Let’s say you do buy a market on an upside breakout from a consolidation phase, and the price starts to move against you—that is, back into the range. How do you know when to get out? How do you tell the difference between a small pullback and a bad trade?

                

                

                Whenever I enter a position, I have a predetermined stop. That is the only way I can sleep. I know where I’m getting out before I get in. The position size on a trade is determined by the stop, and the stop is determined on a technical basis. For example, if the market is in the midst of a trading range, it makes no sense to put your stop within that range, since you are likely to be taken out. I always place my stop beyond some technical barrier.

                

                Don’t you run into the problem that a lot of other people may be using the same stop point, and the market may be drawn to that stop level?

                

                

                I never think about that, because the point about a technical barrier—and I’ve studied the technical aspects of the market for a long time—is that the market shouldn’t go there if you are right. I try to avoid a point that floor traders can get at easily. Sometimes I may place my stop at an obvious point, if I believe that it is too far away or too difficult to reach easily.

                

                To take an actual example, on a recent Friday afternoon, the bonds witnessed a high-velocity breakdown out of an extended trading range. As far as I could tell, this price move came as a complete surprise. I felt very comfortable selling the bonds on the premise that if I was right about the trade, the market should not make it back through a certain amount of a previous overhead consolidation. That was my stop. I slept easily in that position, because I knew that I would be out of the trade if that happened.

                

                Talking about stops, I assume because of the size that you trade, your stops are always mental stops, or is that not necessarily true?

                

                

                Let’s put it this way: I’ve organized my life so that the stops get taken care of. They are never on the floor, but they are not mental.

                

                What eventually tells you that you are wrong on a major position trade? Your stop point will limit your initial loss, but if you still believe in the fundamental analysis underlying the trade, I assume that you will try it again. If you are wrong about the general direction of the market, won’t you take a series of losses? At what point do you throw in the towel on the trade idea?

                

                

                First of all, a loss of money itself slows me down, so I reduce my positions. Secondly, in the situation you described, the change in the technical picture will give me second thoughts. For example, if I am bearish on the dollar and a major intermediate high has been penetrated, I would have to reevaluate my view.

                

                Earlier you mentioned that you had developed your own trend-following systems to provide an indicator of where the large amount of money managed under such systems could be expected to hit the market. Do you use your own trend-following systems to trade any portion of the money you manage?

                

                

                Yes, about 5 percent.

                

                Is that the level of your confidence? I guess it is not negative 5 percent, so it could be worse.

                

                

                Overall, my systems make money, but they have volatility characteristics, and problems related to risk control that I don’t like. But, since they offer diversification from my other trading, I use them to a small degree.

                

                Do you feel it is possible to ever develop a system that would do as well as a good trader?

                

                

                I think it is unlikely because the learning features of such a system would have to be very highly developed. Computers are good at “learning” only when there are clear hierarchies of information and precedent. For example, expert systems for medical diagnostics are very good because the rules are very clear. The problem with developing expert systems for trading is that the “rules” of the trading and investment game keep changing. I have spent some time working with expert system developers, and we concluded that trading was a poor candidate for this approach, because trading decisions encompass too many types of knowledge, and the rules for interpreting the information keep changing.

                

                Does the fact that you are trading so much greater size than you did in your early years make it more difficult?

                

                

                There are far fewer markets with sufficient liquidity for the optimum size of my trades.

                

                How much money are you currently managing?

                

                

                Over $650 million.

                

                I assume more than half of that is due to capital appreciation.

                

                

                Yes, last year’s profits alone were about $300 million.

                

                What are some markets that you really have trouble trading because of insufficient liquidity?

An example of a market I like a great deal, but in which the liquidity is often poor, is copper. In copper, I am now the elephant.

                

                What kind of size can be moved comfortably in a market like copper before it becomes a problem?

                

                

                I would say, in a day, you can comfortably move 500 to 800 contracts; uncomfortably, somewhat more than that. But the daily volume of copper is currently only 7,000 to 10,000 contracts and a lot of that is local trading or spreads. In contrast, in the T-bond market, you can move 5,000 contracts without a problem. You can also move very large size, in the interbank currency market.

                

                Can you trade a market like coffee, which doesn’t have deep liquidity, but sometimes can develop enormous trends?

                

                

                Yes, I did trade coffee last year and made a few million dollars in it. Now, if I am managing $600 million, and I kick in $2 million in profits on coffee trades, it doesn’t really matter that much. In fact, it could even be counterproductive, since the time and energy I spend concentrating on coffee diminishes my focus on the currency markets, which I trade far more heavily.

                

                It would appear that you have reached a size level that impedes your trading performance. Since you have substantial personal funds, did you ever consider just trading your own money and avoiding all the related headaches in managing money?

                

                

                Yes, but there are several reasons why I don’t. Although I invest a great deal of my own money in my funds, the portion of my funds that is managed money represents a call. [Analogy to an option that has unlimited profit potential in the event of a price rise, but risk limited to its cost in the event of a decline.] I don’t say this to be flippant, since my reputation among my investors is extremely important to me, but a call is a much better position than a symmetrical win/lose position.

                

                Is there a practical limit to the amount of money you can manage?

                

                

                In most commodity futures markets, there certainly is. However, in currencies, interest rates, and a few commodities such as crude oil, there are limits, but they are very high. I plan to very carefully manage the future growth in the size of funds I am managing.

                

                When you put in orders in markets that are not among the most liquid—in other words, not T-bonds or the major currencies—do you find your orders actually moving the market?

                

                

                They can, but I never bully a market.

                

                Talking about that, one often hears stories about very large traders trying to push the markets up or down. Does that work?

                

                

                I don’t think so. It can be done for the short term, but eventually it will lead to serious mistakes. It usually results in arrogance and a loss of touch with the underlying market structure, both fundamentally and technically. The traders that I know who thought too highly of their ability and tried to bully the market, ultimately made the mistake of overtrading and went under.

                

                Without mentioning any names, can you provide an example?

                

                

                There is a recent example of a British trading organization getting into serious trouble after they tried to corner the crude oil market. At first they succeeded, but then they lost control and crude oil prices fell by $4.

                

                What was the end result?

                

                

                They lost about $40 million and the organization is in trouble.

                

                You are probably managing more money than any other futures trader in the world. How do you handle the  emotional strain when you hit a losing period?

                

                

                The emotional burden of trading is substantial; on any given day, I could lose millions of dollars. If you personalize these losses, you can’t trade.

                

                Do the losses bother you at all anymore?

                

                

                The only thing that disturbs me is poor money management. Every so often, I take a loss that is significantly too large. But I never had a lot of difficulty with the process of losing money, as long as losses were the outcome of sound trading techniques. Lifting the short side of the July/November soybean spread was an example that scared me. I learned a lot about risk control from that experience. But as a day-in, day-out process, taking losses does not bother me.

                

                Did you have any losing years?

                

                

                Yes, in 1981 I lost about 16 percent.

                

                Was that due to errorsyoumade, or the nature of the markets?

                

                

                It was a combination of the two. My main problem was that it was the first major bear market in commodities I had experienced, and bear markets have different characteristics than bull markets.

                

                Was it a matter of becoming complacent about markets always being in an uptrend?

                

                

                No, the problem was that the principal characteristic of a bear market is very sharp down movements followed by quick retracements. I would always sell too late and then get stopped out in what subsequently proved to be part of a wide-swinging congestion pattern. In a bear market, you have to use sharp countertrend rallies to enter positions.

                

                What other mistakes did you make that year?

                

                

                My money management was poor. I had too many correlated trades.

                

                Was your confidence shaken at all that year? Did you go back to the drawing board?

                

                

                I went back and designed a lot of risk management systems. I paid strict attention to the correlations of all my positions. From that point on, I measured my total risk in the market every day.

                

                When you trade currencies, do you use the interbank market or the futures market?

                

                

                I only use the interbank market, unless I am doing an arbitrage trade against the IMM. [The International Monetary Market (IMM) is a subsidiary of the Chicago Mercantile Exchange and the world’s foremost currency futures exchange.] The liquidity is enormously better, the transaction costs are much lower, and it is a twenty-four-hour market, which is important to us because we literally trade twenty-four hours a day.

                

                What portion of your trading is in currencies?

                

                

                On average, about 50 to 60 percent of our profits come from currency trading.

                

                I assume you are also trading currencies beyond the five that are currently actively traded on the IMM.

                

                

                We trade any currency that is highly liquid. Virtually all the European currencies (including those of the Scandinavian countries), all the major Asian currencies and the Mideast currencies. Crosses are probably the most important trading vehicle that we use that you can’t trade on the IMM. [Crosses are a trade involving two foreign countries. For example, buying British  pounds and selling an equal dollar amount of Deutsche marks is a cross.] You can’t trade crosses on the IMM because they have fixed contract sizes.

                

                But you could do a cross on the IMM by adjusting the ratio of the number of contracts between the two currencies to equalize the dollar value of each position.

                

                

                But it is much more exact and direct to use the interbank market. For example, Deutsche mark/British pound and Deutsche mark/Japanese yen crosses are highly traded and very active.

                

                I assume that when you do a mark/yen cross, you price it in dollars, not in terms of one of the two currencies.

                

                

                That’s right. You simply say: Buy $100 [million] worth of marks and sell $100 [million] worth of yen. In the interbank market, the dollar is the unit of exchange all over the world.

                

                In situations where a surprise news development or the release of an economic statistic out of line with expectations causes a sharp price response in currencies, does the interbank market react less violently than the futures market, or do the arbitrageurs keep the two markets tightly linked?

                

                

                The two markets are well arbitraged, but those are the moments when a very swift arbitrageur will make some money. The markets do get a little bit out of line, but not a lot.

                

                Will the interbank market price response to such events be less extreme?

                

                

                Yes, because what happens on the futures market is that the locals back away and let the stops run. The only thing that pulls the markets back is the arbitrageurs who have the bank on the other side.

                

                What percentage of bank market trading represents commercial activity, or hedging, vis-à-vis speculative trades?

                

                

                The Fed has done a study on that. I don’t have the figures on hand, but it is basically a hedging market. The banks are the principal speculators, as well as a few players like myself.

                

                Is there a reason why the futures market hasn’t been able to capture a larger percentage of world currency trading?

                

                

                The currency futures market is not efficient in several of the most important respects. First, hedging usually has a specific dollar and date requirement. For example, if I need to hedge $3.6 million for April 12, the bank just takes it. The futures market, however, trades only for specific dates and fixed contract sizes, so the hedger is not precisely covered.

                

                So actually there is no way the futures market can compete, because the interbank market can tailor a hedge for any customer.

                

                

                That’s right. In addition, the activity takes place within normal commercial banking relations. That is, very often, the hedger wants to show his banking interest that he has a locked-in profit so he can borrow against it.

                

                Can you talk about your fundamental analysis methodology? How do you determine what the right price for a market should be?

                

                

                I assume that the price for a market on any given day is the correct price, then I try to figure out what changes are occurring that will alter that price.

                

                One of the jobs of a good trader is to imagine alternative scenarios. I try to form many different mental pictures of what the world should be like and wait for one of them to be confirmed. You keep trying them on one at a time. Inevitably, most of these pictures will  turn out to be wrong—that is, only a few elements of the picture may prove correct. But then, all of a sudden, you will find that in one picture, nine out of ten elements click. That scenario then becomes your image of the world reality.

                

                Let me give you an example. The Friday after the October 19 stock market crash, I had trouble sleeping, which is very unusual for me. But I am sure I wasn’t the only trader to lie awake that night. All week long, I struggled with how the events of that week were going to impact the dollar. I was trying on different visions of the world. One of these pictures was total panic—the world coming to an end, financially.

                

                In this scenario, the dollar becomes the safest political haven, and as a result, there could be a tremendous rise in the dollar. In fact, on Tuesday of that week, the dollar did rise dramatically as many people withdrew their money from other places. During the next three days, there was tremendous confusion. By the end of the week, the dollar had started to give ground again.

                

                It was then that it all coalesced in my mind. It became absolutely clear to me that given the combination of a need for stimulative action, dictated by the tremendous worldwide financial panic, the reluctance of the Bank of Japan and German Bundesbank to adopt potentially inflationary measures, and the continuing wide U.S. trade deficits, the only solution was for Treasury Secretary Baker to let the dollar go. Someone had to play the stimulative role, and that someone would be the United States.

                

                As a result, the dollar would drop and it would not be in the interest of the other central banks to defend it. I was absolutely convinced that was the only thing that Baker could do.

                

                You realized all this late Friday. Was it too late to take action in the markets?

                

                

                Yes, and it was a very tense weekend because I realized that the dollar might open sharply lower. I waited for the Far East markets to open Sunday night.

                

                Do you do a lot of your trading outside of U.S. hours?

                

                

                Yes. First, I have monitors everywhere I go—in my home, in my country home. Second, I have a staff on duty twenty-four hours a day.

                

                Is your staff instructed to alert you immediately in case something big happens?

                

                

                Absolutely. First of all, we have call levels in every currency. If a currency breaks out of a range that we have previously identified, my staff is under instructions to call.

                

                How often do you get calls in the middle of the night?

                

                

                I have an assistant trader, and the joke is that he is allowed to wake me up at home twice a year. But it really isn’t necessary very often. Whenever the markets are busy, I know what is going on all the time. My home is fully equipped with trading monitors and direct lines. Also, my assistant’s job is to be up and get the calls. He probably gets called three or four times a night.

                

                Are you saying that you delegate the nighttime decision making?

                

                

                We create a scenario for every currency at least once a week. We define the ranges we expect for each currency and what we will do if it breaks out of these ranges.

                

                So your assistant knows that if currency X gets to 135—

                

                

                He should buy it or sell it. Those decisions have been made beforehand. But they are under instruction to call me if the Prime Minister resigns, or if there is a major unexpected currency revaluation, or something else happens to invalidate the recent scenario.

                

                Are there times you end up trading at night?

Yes, a lot.

                

                You obviously can’t trade round the clock. How do you structure your time to balance your work versus your personal life?

                

                

                I generally try to keep my trading confined between 8 A.M. and 6 or 7 P.M. The Far East is very important, and if the currency markets are very active, I will trade the Far East, which opens at 8 P.M. The A.M. session in Tokyo trades until 12 P.M. If the markets are in a period of tremendous movement, I will go to bed for a couple of hours and get up to catch the next market opening. It is tremendously interesting and exciting.

                

                To see the wave roll from country to country?

                

                

                Absolutely. When you are really involved, the screen almost reaches out and grabs you. The way the quotes are made changes: They get wider; they get wilder. I have contacts all over the world in each of these markets and I know what is going on. It is a tremendously exciting game. There are opportunities all the time. Forgetting trading for a minute, one of the reasons I am in this business is that I find the analysis of worldwide political and economic events extraordinarily fascinating.

                

                The way you describe it, you make the whole process sound like a constant game, rather than work. Do you really look at it that way?

                

                

                It doesn’t feel like work, except when you lose—then it feels like work [he laughs]. For me, market analysis is like a tremendous multidimensional chess board. The pleasure of it is purely intellectual. For example, it is trying to figure out the problems the finance minister of New Zealand faces and how he may try to solve them. A lot of people will think that sounds ridiculously exotic. But to me, it isn’t exotic at all. Here is a guy running this tiny country and he has a real set of problems. He has to figure how to cope with Australia, the U.S., and the labor unions that are driving him crazy. My job is to do the puzzle with him and figure out what he is going to decide, and what the consequences of his actions will be that he or the market doesn’t anticipate. That to me, in itself, is tremendous fun.

                

                In following all these varied world markets, I know you read a tremendous amount of economic literature. Do you also pay any attention to the various market advisory letters?

                

                

                I get a “guru report” every day.

                

                Who is on that list?

                

                

                All the newsletter writers who have a large following. People like Prechter, Zweig, Davis, Eliades, and so on.

                

                Do you use your guru report as a measure of contrary opinion?

                

                

                I try not to be too much of a wise guy because during major price moves, they will be right for a portion of it. What I am really looking for is a consensus that the market is not confirming. I like to know that there are a lot of people who are going to be wrong.

                

                So if you see that most of the members on your guru list are bullish at a time when the market is not moving up, and you have some fundamental reason to be bearish, you will feel stronger about the trade?

                

                

                Yes, much stronger.

                

                Do you think people can trade profitably by just following the gurus?

                

                

                Probably, but my impression is that to make money, you have to hold a position with conviction. That is very difficult when you are following someone else. There are some good gurus, however. For example, in the stock market, I like Marty Zweig. He uses excellent risk control. Unlike some other gurus, he doesn’t believe he is predicting the future; he is simply observing what is happening and making rational bets.

You talk about both the importance of risk control and the necessity of having the conviction to hold a position. How much risk do you typically take on a trade?

                

                

                First of all, I try very hard not to risk more than 1 percent of my portfolio on any single trade. Second, I study the correlation of my trades to reduce my exposure. We do a daily computer analysis to see how correlated our positions are. Through bitter experience, I have learned that a mistake in position correlation is the root of some of the most serious problems in trading. If you have eight highly correlated positions, then you are really trading one position that is eight times as large.

                

                Does that mean if you are bullish in both the Deutsche mark and Swiss franc, then you decide which one you like better and place your entire long position in that currency?

                

                

                Yes, that is definitely true. But even more important is the idea of trading a long in one market against a short in a related market. For example, right now, although I am net short the dollar, I am long the yen and short the Deutsche mark. In all my trading, if I am long something, I like to be short something else.

                

                Do the cross rates like the Deutsche mark/Japanese yen move slower than the individual currencies themselves?

                

                

                Not necessarily. For example, recently the sterling/mark cross rate was in a yearlong congestion between approximately 2.96 and 3.00. It finally broke out about a month ago. The day it broke out, it challenged the top of the range about twenty times. The Bank of England kept on defending it. Finally the Bank of England gave in. As soon as the cross rate pierced the 3.01 level, there were no trades. In fact, there were no trades until it hit 3.0350. So it moved virtually a full 1 percent without trading.

                

                Is that unusual for the interbank market?

                

                

                Very unusual. It meant everybody was watching the 3.00 level. Once everyone realized the Bank of England was not stepping in, no  one wanted to be a seller.

                

                Is that type of breakout—a violent and quick one—much more reliable than a typical breakout?

                

                

                Yes, it is much more reliable.

                

                Even though your fills are worse?

                

                

                Terrible fills. The worse the fills are, the better your trade. In that case, after trading for a couple of hours between 3.04 and 3.02, the rate went straight up to 3.11.

                

                Do you believe that the cross rates provide better trading opportunities in currencies than net short or long positions against the dollar?

                

                

                Yes, because there are a lot fewer people paying attention to the cross rates. The general rule is: The less observed, the better the trade.

                

                Your trading style involves a synthesis of fundamental and technical analysis. But if I were to say to you, Bruce, we are going to put you in a room and you can have either all the fundamental information you want, or all the charts and technical input you want, but only one, which would you choose?

                

                

                That is like asking a doctor whether he would prefer treating a patient with diagnostics or with a chart monitoring his condition. You need both. But, if anything, the fundamentals are more important now. In the 1970s, it was a lot easier to make money using technical analysis alone. There were far fewer false breakouts. Nowadays, everybody is a chartist, and there are a huge number of technical trading systems. I think that change has made it much harder for the technical trader.

                

                Do you think that the trend-following system approach

 will eventually self-destruct under the weight of its own size and the fact that most of these systems are using similar approaches?

                

                

                I think that is true. The only thing that will save those technical systems is a period of high inflation, when simple trend-following methodologies will work again. However, there is no question in my mind that if we have stable, moderate rates of inflation, the technical trading systems will kill each other off.

                

                Let’s shift our conversation to the stock market. Do you believe that the stock market behaves differently from other markets, and if so, how?

                

                

                The stock market has far more short-term countertrends. After the market has gone up, it always wants to come down. The commodity markets are driven by supply and demand for physical goods; if there is a true shortage, prices will tend to keep trending higher.

                

                So if the stock index market is much choppier, are there any technical approaches that can work?

                

                

                Perhaps, but they keep changing. I have found that very long-term decision-making systems will catch the bigger stock market advances, but you need to use very wide stops.

                

                So you have to be very long term to filter out the noise.

                

                

                Much longer than most traders can handle because that strategy involves riding out large retracements. As an alternative approach, one of the traders I know does very well in the stock index markets by trying to figure out how the stock market can hurt the most traders. It seems to work for him.

                

                How can he quantify that?

                

                

                He looks at market sentiment numbers, but basically it is a matter  of gut feel.

                

                Some critics have attributed the October 1987 crash to program trading. What are your own feelings?

                

                

                I think two different elements were involved. First, overly high prices left the stock market vulnerable to a decline, which was triggered by rising interest rates and other fundamental causes. Second, that decline was accentuated by heavy selling from pension funds who were involved in so-called portfolio insurance.

                

                Are we talking aboutportfolio insuranceas opposed to arbitrage-typeprogram trading? [Portfolio insurance involves systematically selling stock index futures as stock prices decline (and covering those shorts when prices rise) in order to reduce portfolio risk. Program trading normally refers to buying and selling stock index futures against an opposite position in a basket of stocks when the prices of the two are out of line.]

                

                

                Right. The only way in which arbitrage could be said to have contributed to the problem, rather than helped it, is that if it weren’t for program trading arbitrage, portfolio insurance may never have been developed.

                

                So the arbitrageurs are only to be blamed for the market decline insofar as they made portfolio insurance possible?

                

                

                Yes. If you read the Brady report, you will see that the portfolio insurers came into the market with billions of dollars worth of sales in a few hours. The market was unable to absorb it. Portfolio insurance was a terrible idea; it was insurance in name only. In fact, it was nothing more than a massive stop-loss order. If it were not for portfolio insurance selling, the market would still have gone down sharply, but nothing like the 500-point decline we witnessed.

                

                Do you feel great traders have a special talent?

                

                

                In a sense. By definition, there can only be a relatively small group  of superior traders, since trading is a zero-sum game.

                

                What is the balance of trading success between talent and hard work?

                

                

                If you don’t work very hard, it is extremely unlikely that you will be a good trader.

                

                Are there some traders who can just coast by on innate skills?

                

                

                You can do that for a while. There are a lot of one-year wonders in trading. It is quite common to find somebody who has a strong feeling that sugar is going to 40 cents, or that the copper spreads are going to widen dramatically, and that one idea turns out right. For example, recently I heard about a trader who made $27 million trading copper spreads this past year, and then lost virtually all of it.

                

                What advice would you give the novice trader?

                

                

                First, I would say that risk management is the most important thing to be well understood. Undertrade, undertrade, undertrade is my second piece of advice. Whatever you think your position ought to be, cut it at least in half. My experience with novice traders is that they trade three to five times too big. They are taking 5 to 10 percent risks on a trade when they should be taking 1 to 2 percent risks.

                

                Besides overtrading, what other mistakes do novice traders typically make?

                

                

                They personalize the market. A common mistake is to think of the market as a personal nemesis. The market, of course, is totally impersonal; it doesn’t care whether you make money or not. Whenever a trader says, “I wish,” or “I hope,” he is engaging in a destructive way of thinking because it takes attention away from the diagnostic process.

                

                

                        

                

                

                In my conversation with Kovner, I was struck by the immense complexity and scope of his analysis. I still can’t figure out how he can find the time to follow and analyze intricately the economies of so many different countries, let alone integrate these various analyses into a single picture. Clearly, Kovner’s unique synthesis of worldwide fundamental and technical analysis is hardly translatable to the average trader. Nevertheless, there are key elements in Kovner’s trading approach that have direct relevance to the more mundane trader.

                

                Kovner lists risk management as the key to successful trading; he always decides on an exit point before he puts on a trade. He also stresses the need for evaluating risk on a portfolio basis rather than viewing the risk of each trade independently. This is absolutely critical when one holds positions that are highly correlated, since the overall portfolio risk is likely to be much greater than the trader realizes.

                

                One statement by Kovner, which made a particularly strong impression on me, concerned his approach in placing stops: “I place my stop at a point that is too far away or too difficult to reach easily.” In this manner, Kovner maximizes the chances that he will not be stopped out of a trade that proves correct, while at the same time maintaining rigid money management discipline. The philosophy behind this approach is that it is better to allocate the predetermined maximum dollar risk in a trade to a smaller number of contracts, while using a wider stop. This is the exact reverse of the typical trader, who will try to limit the loss per contract, but trade as many contracts as possible—an approach which usually results in many good trades being stopped out before the market moves in the anticipated direction. The moral is: Place your stops at a point that, if reached, will reasonably indicate that the trade is wrong, not at a point determined primarily by the maximum dollar amount you are willing to lose per contract. If the meaningful stop point implies an uncomfortably large loss per contract, trade a smaller number of contracts.

                

                Kovner’s worst trading mistake—his “going bust trade,” as he terms it—resulted from a spur of the moment decision. My own personal experience underscores that there is probably no class of trades with a higher failure rate than impulsive (not to be confused with intuitive) trades. Regardless of the approach used, once a strategy is selected, the trader should stick to his or her game plan and avoid impulsive trading decisions (for example, putting on an unplanned trade because a friend has just recommended it; liquidating a position before the predetermined stop point is reached because of an adverse price movement).

Finally, Kovner views a good trader as “strong, independent, and contrary in the extreme,” and points to discipline and a willingness to make (and accept) mistakes as significant traits of the winning trader.

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