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#Quora: If 90% of traders lose and 10% wins, are those 10% disproportionally made up of very high IQ people?

If 90% of traders lose and 10% wins, are those 10% disproportionally made up of very high IQ peop… by Laurent Bernut

Answer by Laurent Bernut:

No, but for different reasons that the instructive and brilliant answers given by people far more intelligent than yours truly. Making money in the market is a side effect. Yes, You read correctly. Would You like to know why ?

(An entire section of my upcoming book on short selling is devoted to this topic so stay tuned)

The biology of trading:Inner alignment 1

To all of You who believe markets are efficient and think of yourselves as rational investors, how many times did You check your mails today ? 10–20 times. That is Dopamine in action. This is the reward circuitry. Not even Paris Hilton has a life exciting enough to check mails continuously. We do so because our brain releases dopamine (feel good hormone) for mild uncertain rewards.

Have you ever found yourself overriding your risk limit just right around the wrong time? Overconfidence is the ubiquitous plague of traders. Rational investor, would You like proof of overconfidence? Divorce statistics, i rest my case with your multiple ex-wives

Now, when your performance sinks and you can’t think straight, do you pass up trades? Do you find yourself exhausted, irritable? Cortisol

Your average pension fund manager is the direct descendant of someone who woke up in a cave and started running after mammoths for breakfast. Not exactly savvy with probabilities but the survivors got the girls…

The hard wired mind of trading

In the 60s Michael Gazzanika developed the theory of split brain. We, humans, pre-consciously rationalise our decisions. Take a look at the junk in your portfolio. A solid third of it would not even be there if you had to do it all over again.

Do You find it hard to execute stop losses (Oh, the chapter on the psychology of stop loss is worth the entire book multiple times, i will refund anyone who does not have a aha moment there) ? Ego prevails over profits. Valeant (VRX), case in point…

Subconscious beliefs and fears

Fears exist in the shadows. In his book, Daniel Goleman (the EQ dude) describes elf deception as a built in mechanism that covers its own tracks. we rationalise all the time. Proof? when was the last time you got laid (Maslow pyramid about reproduction)? when was the last time you rationalised a decision ?

Market participants do not trade to make money. Proof?Look at the junk that fester in your portfolio… Some of us trade to prove to someone dead 20 years ago (i-e father, mentor, bully at school, whatever) that they are worthy individuals. Dude, You are beautiful, You are worthy of love.

The floating world of beliefs and fears

Finally, floating at the surface like ice cubes in a single malt are conscious beliefs and fears. Fears of losing your job, fear of missing out, fear of pulling the trigger, fear of inadequacy (smart guys are buying that Enron thing so i will join the party)

Of course, there is the belief You cannot time the market. Who told you that? Journalists and analyst who hug the mike and more importantly yourself when the thing you just bough went south…

Now, let’s quip the IQ myth. Self deception is a mechanism that covers its own tracks. High IQ dudes always have spectacular excuses. I know two types of traders: those who make money and those who have excuses. Which one are You

Bottom line: born to lose

Bottom line, your biology f@#ks you up. Your beautiful mind comes delivered with amazing features, most of which will get You killed on the markets (try fairness for instance). Then, your ego, your subconscious deep rooted fears will supersede your best intentions. Then, there is this floating junk of unchecked beliefs irrational fears.

So, no wonder 90% of the people lose money.

Now, why do 10% succeed? The hero’s journey

They succeed simply because of their inner alignment of their biology all the way up to their daily routines. Great traders are not smarter, they have smarter trading habits. Making money is just the yardstick of inner alignment.

Would You like to know about the three scientifically proven methods to re-align yourself? Then, please follow, or subscribe to my (free) website, or help launching the book

As Arnold, Ze Great Governator said: “Ze hardest part of putting on muscles is getting to ze gym, jaa”

If 90% of traders lose and 10% wins, are those 10% disproportionally made up of very high IQ people?

The short-selling world according to DARP

Most market participants look at the short-side through their Long Only perspective. They believe that if they apply the same logic that has made their success on the long side to the short side, WorldAccording toGarpthen it should work. It should work but it does not. The Short side is still Terra Incognita, a vast continent populated with savage speculators. It obeys its own rules, its own dynamics. Newcomers to the world of short selling tend to be either too early or too late. Profitable shorts are at least as plentiful as long ideas. Market participants just don’t look for the right clues.
Stage 1: Contrarian shorts: from stratosphere to ionosphere
Market participants often come to short selling from the Long side. They believe in fairness. What is cheap should progress to fair valuation. Conversely, what is expensive should revert to fair valuation. Fairness is one of the very traits that transcends culture, race, and age. Toddlers have deep sense of fairness, long before they can speak. We are hardwired for fairness in a world that is not. Carrying that subconscious belief in the markets is a deadly virtue.
Market participants often see themselves as the lonely voice of reason amidst a delusional crowd. They may be right, eventually, but meanwhile  one single individual battling a mob is still an unfair fight. Stocks that have reached stratospheric valuations often have enough momentum to push to the ionosphere, before gravity reels them back in. Stocks on PE of of 100 have escaped the gravity of reason. They might as well go to 150, 200 or 3000. This is the rarefied atmosphere of permanently high plateau, paradigm change, because like before, “this time, it’s different”
Short selling something that does make sense does not make sense either. As Keynes used to say, markets can stay irrational longer than we can stay solvent.
From a portfolio construction perspective, this does not make sense either. On the long side, market participants expect fundamentals to improve and stocks to go up. They are in for the long haul. Meanwhile, on the short side, they expect imminent collapse. So, they are Long trend following and short mean reversion. Those have diametrically opposed reward to risk profiles. They have different P&L distributions and different sets of risks. Risks that are different do not cancel each other out but compound as they quickly realise. It is always painful to watch a short book accelerate faster than a dull long one.
Once market participants re-acquaint themselves with the old adage “the trend is your friend”, they are scarred enough to move to the next stage.
Stage 2: crowded shorts: the province of fundamental short sellers
The last 5% around the top and the bottom have claimed more market participants than the 90% in between.
When short selling by anticipation fails, market participants turn to shorting by confirmation. They wait for fundamentals and newsflow to deteriorate enough to place a trade. They have been scarred before, so they want every box ticked, every fact checked.
What they fail to realise is that if there is sufficient evidence to conclude that it is a short, there has probably been enough warning signs for long holders to bail for some time.
By the time short sellers have accumulated sufficient evidence to build a short case, long holders have left the building. Short sellers are left battling with one another over a dry bone. Those shorts  make sense, but they rarely make any money.
In fact, the reward to risk curve has inverted. Outcome is binary: either stocks goes to zero, either there is some corporate action: takeover, management change etc. One of my  London ex-colleagues used to say that a distressed stock going from 1 Euro to 50 cents is still a 50% decline. True: 1 to 0.50 is -50%, but only after 6 or 7 nasty short squeezes. The question is not whether stocks will get to zero, the question is will you still be there by then ?
In my time as a dedicated short seller, brokers used to call and pitch “structural shorts”. Structural shorts trigger a deep seated Pavlovian reflex: it makes me want to
  1. buy the stock
  2. graciously offer the borrow for free
  3. and send a box of chocolate to whomever wants to short. Chocolate  is a good therapy for smoothing the rough short squeezes ahead
Stage 3: Frustration and the despair of structural shorts
Contrarian shorts hurt. Fundamental shorts do not contribute much either. At this stage, market participants realise that the beliefs they hold about short selling may be right in theory, but still losing money in practice. Frustration and despair sets in. They have a couple of shorts and “hedge” their portfolios via futures. At that stage, market participants have literally no idea on what and how to sell short.
What happens when we lose your car keys in a dark corner of a parking lot? We go and look for them under a lamp post, where there is light of course. Market participants look for those structural shorts that will go down forever so that they can throw away the key and go back to their longs.
Market participants who publicly profess their hunt for structural shorts are unfit for managing people’s money for two reasons:
  1. Divorce from reality: Structural shorts are like market gurus: they are a dime a dozen. Profitable structural shorts are like market wizards, good luck finding one. Borrow is expensive and long holders have left the building a long time ago
  2. Abdication of responsibility: when they say they want structural shorts, what they mean is they do not want to be bothered with the short side anymore. They want to find something that they can throw in the short book and “forget about it”. This is an implicit acknowledgement of failure. They are happy to collect fees, but reluctant to do the work. There is obviously no hedge, no downside protection, no free lunch and eventually no happy ending.

At this stage, market participants resort to futures. They realise their vulnerability both versus the markets and versus their investors. The problem is futures do not offer much protection when markets tank. Besides, investors are understandably reluctant to pay exorbitant fees for something they can do themselves. They are willing to pay as much

Stage 4: Unplug from the matrix: reality is the time in between the “shoulds”

Between the time when Valeant was puffed up to “unsustainable valuations”, and the first analyst to throw the towel with a “Sell” rating, share price actually did go down by roughly -80%. There was no “beam me down Scottie”, exchange between share price and the deck of the Enterprise. Share price did go down over time, but market participants were institutionally blind to it.

Persistent short sellers one day wake up to the fact that between the time when “valuations should normalise” and when “company should collapse”, there is an extended period of time when share price actually does come down. Reality is the time in between the “shoulds”.
Stage 5: DARP: the un-sexy flip-side of GARP
Under-performing stocks are everywhere. They rarely reach extreme valuations, so they never feature on everyone’s target short list. They just trail their sector, the benchmark and eventually drop in absolute as well. They just slowly fade into oblivion, and this is why we have a collective institutional blindspot. There are three main reasons for this: psychological and wrong assumptions
Analysts color blindness
Analysts are color blind: everything has to be either rosy or dark grey. They are usually prompt to raise their ratings and their estimates when fundamentals improve. They are late to downgrade their ratings as they do not want to jeopardise their relationships with corporations, infuriate their investment banking colleagues and volunteer for the next chopping block. Estimates fall but not nearly as fast as they were once raised. There is built-in institutional inertia to factoring decline in ratings and estimates. Meanwhile, old stock market darlings just drop off the conversation and gradually fade into oblivion.
The second reason is psychological. As scientific as it may sound, fundamental analysis is inherently subjective. Facts just aren’t data; they are weaved into “logical” arguments called investment thesis. For fundamental participants to admit a stock could be a short, they must first go through the intellectual divorce of accepting that it is no longer a Long.
Fundamental market participants grieve their way into short selling. They go through the Kubler Ross cycle of grief. Only in the final stage do they finally wake up and accept that the stocks they once loved could be short. Everything prior is discounted, or ratonalised.
DARP: the un-sexy flip side of GARP
Many market participants invest on the Long side following a Growth at Reasonable Price (GARP) methodology. They look for visible growth prospect with reasonable valuation support. They shy away from hyped stocks.
Frothy valuations is the premium market participants put on growth prospects. Once growth prospects disappoint, the premium gets arbitraged away. Valuations come down to reasonable level, on par or at a slight discount versus their peers. This gives the illusion of fair valuation or discount relative to peers.  There is no news flow that would draw attention, such as big earnings revision, or product recall. Yet, growth may continue to be sluggish. Growth stocks move to the value camp, and value stocks drift to value traps. Stocks imperceptibly under-perform their peers, the market. Welcome to the world of Decline at Reasonable Price (DARP).
This notion of DARP is difficult to comprehend for most fundamental investors. They practice Growth at Reasonable Price (GARP) on the Long side.  So, they believe they should do the opposite on the short side. They naturally tend to look for unreasonable valuations coupled with unsustainable growth prospect, or even imminent collapse. As we saw before, the last 5% to the top and from the bottom have claimed more participants than the 90% in between.
Investors struggle to find shorts because they look for the wrong clue. They focus on rich valuations when they should look for relatively sluggish growth. This puts a glass ceiling on share price appreciation, i-e the famous “valuations stay cheap for a reason” argument.
In a nutshell, there is no smoking gun on the short side: profitable shorts do not stand out. The best way to picture a profitable short is to think of it as dull long stocks. On the short side, boring is good. Boring under-performs.
Conclusion: Empty your cup
The short side is is a vastly unexplored continent: the Terra Incognita of short-selling. It has its rules and its dynamics, largely unexplained.
Market participants come to the short side full of the assumptions they carry over from the Long side. The theory that they bring along has a sobering encounter with reality. This brings frustration, disappointment, anger and eventually atonement.
Yet, success on the short side carries its own rewards. Those who master the skill can craft their own performance profile, levy higher fees, attract and retain investors.
The short side has more than one paradox. Whilst volatility is elevated, success comes from looking for stocks that other investors casually dismiss as boring.
Let us know what You think, your experience. Comments are always welcome. Please share with your friends and colleagues

#Quora: How can Renaissance Technologies make so much money from financial markets by hiring scientists/mathematicians with no domain knowledge o…

How can Renaissance Technologies make so much money from financial markets by hiring scientists/m… by Laurent Bernut

Answer by Laurent Bernut:

I have never worked at Renaissance, so please take my answer with a grain of salt, but here is a first hand story that could shed some light.

Red OctoberOn June 22nd in NYC, my colleague, who is also ex-US Department of Defense consultant and myself, met with one of the foremost US experts on sonar detection (good luck finding him on Facebook, LinkedIn). He is a physicist with multiple PHDs, geeky funny. His expertise is signal processing. He is the real “Hunt for Red October”.

It was one of the most refreshing experiences ever. He explained his world. I explained mine. Cotes de Provence Rose, beer and wild berry Zinfandel helping, we tumbled down the rabbit hole talking even about epistemology, the philosophy behind math.

His world, signal processing, bears uncanny resemblances with ours. We explored Bayesian probabilistic determinism, which models (Gauss, Poisson etc) to apply to distributions, the cost of false positives (think trading edge), arbitrage between time and action with sparse data (confirmation). We spoke the same language. We were talking real problems: how do distinguish signal from the noise ? How fast ? What is the cost of being wrong ? What is the cost of being right ? Which statistical law applies to randomness ?

We entered a massive time distortion. We started around 2 pm and a couple of bottles down the road, but then after what seemed like 5 minutes, we were hungry. It was 10 pm. We could have gone on forever (*)

Compare this with glorified journalists, otherwise referred to as fundamental analysts.

  • “This is fairly valued”… life is unfair darling, so do you really think markets are fair ?
  • “On a sum of the parts valuation”… Frank N. Stein zombie valuation
  • “Fundamentals are strong”… Make fundamentals great again…
  • “Long term story is still intact”… Some HF reality TV celeb says that about Valeant by the way…
  • “On a DCF basis, our target price is +10% above current market valuation” … stop tinkering the terminal value to rationalise your subjective views
  • “i think there is 80% chance that” … bad arithmetic meets emotional roller coaster
  • “top quality management” … was also said about Enron, Bear Sterns, Kodak, GM, Chrysler, Valeant

Too much B/S bingo, too much theory,

Bottom line: “In theory, theory and practice are the same. In practice, they are not”. Yogi Berra, Yankee philosopher

Physicists approach the markets as a statistical problem. This is practical.

MBAs have too much untested theories in their head. It is costly and time consuming to unlearn all that junk.

 

(*) There is no way i could ever afford someone of that caliber; he charges something the size of Liberia’s national deficit per hour. But, he wants to send his granddaughter to Mars and he thinks our algo could be the right fuel, so we invited him to have fun with us. Maybe good guys do not always finish last…

How can Renaissance Technologies make so much money from financial markets by hiring scientists/mathematicians with no domain knowledge o…

@Quora: What is the point of hedging a portfolio instead of closing losing positions?

My answer to What is the point of hedging a portfolio instead of closing losing positions?

Answer by Laurent Bernut:

It seems like You are experiencing pain right now. This is clouding your judgment. So, let&s do a step-by-step approach’ 1. Emotional relief, 2. Boundaries, 3. Recovery 4. New rules

1. Emotional and Financial capitals: forgiveness and dissociation

You can recover from financial losses over time, as long as You recover from emotional losses. So, We need to get out of your emotional pain first.

The power of forgiveness

Village PeopleForgive yourself for losing money. Make peace with yourself. You made a bad a decision. It is alright.  In Jungian archetypes, this is called re-parenting the orphan. You soothe yourself as if You were soothing your child who got hurt. This is no new age fell good stuff: i am a professional short seller, not a cat lady.

There is solid academic research that links forgiveness and learning ability. Bottom line, if You beat yourself up, You create trauma and are statistically more prone to relapse. The Village People masculine approach  to taking losses like a man  may result in storing memories in the hippocampus (trauma, pain), rather than the pre-frontal cortex learning centre.

Dissociation

No problem can be solved at the level it was created“, Albert Einstein, patent clerk

This is a cool jedi trick. Put yourself in the shoes of someone You respect for her investing/trading skills. Really feel being that person. How would she react ? Would she be calm, composed ? Would she have slow or fast breathing ? Try to emulate this person both physically and mentally.

While You do that, exhale twice as long as You inhale, and widen your vision from tunnel to peripheral, look up a bit.

When You have impersonated this person, ask yourself how would this person solve the problem ? Take a pen a paper and write it down. Do not commit to memory. The chemical reconstruct we call memories are highly fickle and inaccurate.

This is a powerful exercise that frees up some mental bandwidth. Stress triggers the fight flight syndrome. This hijacks the prefrontal cortex and hijacks the thinking brain. This exercise frees up mental bandwidth. Practice often and You will be the iceman on the trading desk

2. Set boundaries

Mad Max

“Hope is a mistake”

Hope is a mistake“, Mad Max, Aussie philosopher

If You ask this question, it is probably because You thought this “soft patch” would go away and You would be back on happy street in no time. You ignored the signals and You got caught in a storm with a t-shirt, didn’t You ?

Stock repair strategies as we use in options world never really do the job properly and they cost a lost of mental capital. Bad idea. Same applies to your situation.

You were probably optimistic and failed to think about stop loss. You probably don’t believe in them and may buy into the “buy and hope” fairy tale. Well, the best car in the world would not even sell 1 unit if it did not have good brakes.

At this stage, You will have to decide a NUMBER of the loss You can afford to sustain. Not maximum pain, just how much can You afford to lose so that You can recover within 6 months ? Repeat the exercise and stretch the time horizon, 1 year, 2 years 3 years, 5 years etc. Stop when You come to the same number at various intervals. Focus on the recovery period.

This neat jedi trick invokes the “future self” and reframing: it focuses on recovery as opposed to pain.

Write that number down and commit now to liquidating everything if your losses reach that point. No negotiation, no investment committee, just out

The way to make it more acceptable is to tell yourself being right means following a process, being profitable is an outcome, not a process thought.

3. Recovery: two certainties in life: death and short squeezes

“There are unknown unknowns”, Great War Criminal

There is no way to tell how long a bear market will last. Forget about the talking heads, They did not see the bear coming, so they probably won’t see it go either

One rule of thumb about hedging: it gets expensive during sell off, so be patient. Wait for a squeeze to hedge. They come once a month. Politicians feel compelled to flap their mouth at regular intervals during bear markets… So, don’t worry, someone is coming.

When short squeeze comes do this:

  1. Reduce your exposure: reduce size of positions that stress You the most. Reduce until You can sleep if You are not mathematically inclined. You have to do it, it is part of hedging
  2. The smart way to reduce risk is to sell call against your holdings: You collect premium and reduce exposure
  3. Do not trade VIX options to hedge: this is for losers, amateurs and TV talking heads
  4. Long put spread: skew changes marginally during squeezes. So, this is time to put on put spreads. Put spreads are volatility structures that will make money if the markets fall between a ceiling and a floor. Risk is capped and so is profit potential. It is not very risky
  5. Don’t waste time looking for the golden fleece of safe asset class that does well in bear markets: The only asset class that fits this profile is cash.
  6. Avoid short selling yourself, delegate: short selling requires a level of skills that takes time and practice to mature. You should delegate this to a professional short selling manager.
  7. Be careful with selling index futures: Shorting S&P futures while being Long small caps it not a hedge. You are implicitly Long small caps and short large caps. Large caps fare better in bear markets, small caps get crushed. So, this feeling of being hedged is illusory at best

4. New rules

The best time to repair the rof is when the sun is shining“, JFK, Great XXth mystery

Hedging is like swimming lessons, It is a bad idea to think about taking swimming lessons when You are drowning.

The market is a joint venture between Murphy and Marcelus Wallace. Murphy makes sure that if something goes wrong it will. Then, Marcellus gets medieval on your a@#.

Bottom line: be prepared. Decide your hedging strategy before you put on a trade.

The best advice about position sizing I can ever give is: size your position not thinking how much you could make, but expecting them to fail and how much You can afford to lose.

What is better in the end, earning a little less than You could, or losing a lot more than You should ?

Good luck, and practice the first two mental exercises. May the force be with You


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What is the point of hedging a portfolio instead of closing losing positions?

@Quora: Do simpler trading strategies make the psychological aspects of trading more manageable thus making them better for rigid implementation …

My answer to Do simpler trading strategies make the psychological aspects of trading more manageable thus making th…

Answer by Laurent Bernut:

Excellent question. Complexity is a form of laziness. 1) The privilege of simplicity is that it imposes itself, even to those who do not understand its sophistication 2) Simplicity is the exact opposite of easy.

Complexity is fragile

I have met many people trading complex strategies. I have had the privilege of meeting many people with long track record. I have yet to meet trading complex strategies with a long track record.

Complexity gives an illusion of control. It is also highly specialised. So, it tends to fall out of sync. then, traders start drifting and tweaking and add one more widget instead of subtracting.

As the Great Chinese philosopher Bruce Lee used to say: ultimately, perfection runs into simplification.

Complexity is a form of laziness:

People who settle for complex solutions have not worked hard enough to simplify them. It is easy to throw another oscillator in the mix. It is simplistic to optimise for a moving average. Below is my screen, no indicator, no oscillator, nothing, just the purity of the price:

In fact, the opposite of simple is not complex. The opposite of simple is easy.

The privilege of simplicity is that it imposes itself, even to those who do not understand its sophistication. We can understand it. It intuitively imposes itself.

Simple is not rigid, it is fluid

You will know that You are on the right track when You start subtracting instead of adding to your strategy.

I started off with 9 exit conditions. Now, I have 2: trend reversal and stop loss.

I started off with 3 distinct strategies. Now, i have 1 unified strategy. It knows when to suspend trading, reduce risk. Hint: the answer is not in the Buy/Sell signal but in position sizing and rejection of small orders…

But behind this simplicity there is immense relentless kaizen. It took me years to see what was in front of me. We do not see things as they are. We see them as we are.

Simple is a way of life.

The false comfort of complexity

People are intimidated by complexity. If it is simple, they believe that anyone could do it, therefore it cannot work. Picasso once drew a picture on a napkin to a restaurant owner and then asked for an astronomic sum. He then told it took him 30 years to draw those simple lines.

People often mistake simplistic and simple. I often ear that what i do is superficial. Perfect, “let’s step into the math then” and 5 minutes down the road, they have an angelic blank stare and conclude it is too complicated.

Simple rules

  1. Stop Loss: 2nd most important variable
  2. Position sizing: money is made in the money management
  3. Exits: You have to get off the bus at some point
  4. Entries: vastly overrated
  5. Above all: clarity of purpose, of formalisation. Be specific, very specific

Do simpler trading strategies make the psychological aspects of trading more manageable thus making them better for rigid implementation …

The psychology of stop loss

Diets don’t work. There has never been as many methods in the history of mankind. Meanwhile, we are all getting fatter year after year. Diets just solve the wrong problem. The issue is not the food we ingest; it is how we relate to it. If instead of juicy, delicious, melting, tender, we associated beefsteaks with increased risks of coronary and cardiovascular accidents, reduced life expectancy, arteriosclerosis, high cancer risk, we might be less inclined to partake in the consumption of the flesh of the holy cow.
Stop losses are like diet. Every knows the recipe: “cut your losers, ride your winners”. Everyone also knows the way to accomplish this as well: stop loss losers. So, why do we all fail ? This is not a statistical problem about calculating optimum stop loss. The issue is the associations we make about closing positions. Stop Loss is an identity issue.
The topic of “stop Loss” deserves a book. This article merely scratches the surface. Yet, You will find powerful tools to reframe your stories and practical tools to set and honour stop losses
The interesting twist on stop loss is even though we intellectually know that we are wrong at least 50% of the time, our ego has us still behave as if we have to be right 100%.

Part 1: Making money on the markets goes against nature

 “Hope is a mistake”, Mad Max, Aussie Philosopher
When people say I don’t believe in stop loss,…
… What they actually mean is I don’t like to admit I am wrong. They are often acutely aware that there is something wrong. Yet, they are willing to take on more pain and more uncertainty hoping that things will turn around and that they will be vindicated. This phenomenon has been studied by Nobel laureates Daniel Kahneman and Amos Tversky and known as risk seeking with losses and risk aversion with profits.justice-for-children
At the heart of this lies a confusion between outcome, i-e making/losing money, and process, i-e investment discipline. If being profitable equals being right, then logically losing money means being wrong. Any loss is therefore a direct attack on the self-image constructed by the ego. Since the ego wants to be right, and will always protect itself at any cost, we will sacrifice profits, endure excruciating pain for long stretches of time, jeopardise our jobs, our reputation even our families. The objective is no longer to be profitable but to validate the ego.
In Jungian archetype, the ego is an unhealthy version of the orphan. It is an early version of our personality, developed during the formative years of childhood. The image of the orphan, abandoned and mistreated, is actually a good metaphor.
Deep inside, the orphan’s intentions are good, he means well. He yearns for love and validation. Yet, as a child, he does not know how to handle situations gone out of control. His natural defense mechanism is denial and deflection. He will delay admission that something is wrong only to preserve ego driven self-image. He will pretend it did not happen. He will rationalise. Since he does not have better problem resolution method, he will show extraordinary resilience and wait until wrong turns back to right, until losses turn back into profits.
Do not underestimate the toxicity of a stubborn ego. Reputations and jobs have gone before egos surrender. Examples of pointless wars, companies run into the ground by narcissistic top management.
Bottom line: we are naturally inclined to let our losers run.

Why we cut our winners

We are not born eager to take profits early, quite the contrary in fact. “Beginners luck” stands for taking big risks on a low probability events, something no seasoned player would never dare. We become risk adverse after a few painful losses. We see profits evaporate before our eyes and want to keep some of it next time. If we never experienced losses, we would not feel the need to be risk adverse with profits. We would gladly embrace the riskiest strategies if it was not for the painful lessons we have learned through losses.
Bottom line: it is in our nature to run losers and then cut winners. Making money in the markets goes therefore against our nature

Part 2 How to re-write the story of stop loss

 

1. Accountability: take responsibility

The job of the ego is to protect itself at all cost, at all times. By now, You have probably concluded that this toxic form of ego has happened to people You know, but that You are immune to it. This makes for (hopefully) a nice read, but there is no need to change. Well, if that thought just crossed your mind, Your ego is playing tricks on You. Self-deception covers is a built-in feature that covers its own tracks. Try those exercise and see for yourself how good You are at deceiving yourself.
Exercise 1: Business is a form of procrastination
What do You do when there are uncomfortably large losses festering in your portfolio ? Do You read every analyst report ? Do You call companies, experts, read every article ? Or do You simply clean your desk ?
Chen & al asked students preparing for exams to grade their assiduity as well as break down their daily activities. Students who put off studying were also found more diligent at cleaning their desk , calling their parents. They were engaging in useful activities as a way to rationalise the guilt of not performing essential duties.
Exercise 2: The naked truth of numbers
In one of my previous jobs, i was fortunate enough to analyse the performance of managers stock by stock. If the three worst performing stocks had been removed from every portfolio, all managers would have outperformed their benchmark (before cost) every single year for the entire sampled period.
So, analyse all your trades and compare the bottom 5th percentile to the top 95th percentile. Download the trading edge vizualiser and run the numbers.
Calculate a 5th percentile tail ratio.
 
Your ego might have tricked You into believing You are rational. It might even have tricked You into believing You were doing the right due diligence, but in the end numbers don’t lie.
 

2. Reframing stop losses

If someone handed You the keys to the sexiest car on the planet, but whispered “brakes don’t work”, would You still take it for a spin ? Stop losses are like brakes. You may not like them, but they will keep You alive.
That simple metaphor is called reframing. It translates an abstract concept like stop loss into something we can relate to. Even though the absolute, imperative, non-negotiable necessity of a stop loss imposes itself beyond any beginning of dispute, we are still unlikely to execute, simply because enforcing them still conflicts our sense of identity. Bottom line, Stop loss is an identity issue.

3. Identity association

For example, diets are healthy, we know that. Yet, the overwhelming majority of people who have successfully lost weight end up putting it back on within a year. They have gone through the physical part, but they maintain unhealthy identity associations with food. Food is not the problem, how we associate to it is.DietsGone wrong
As long as we associate profitability with self worth on a trade-by-trade basis, the ego will trick us into skipping stop losses. We need to consciously associate being right with adherence to an investment process. This shifts focus from outcome (profitability) to process: being right is executing the plan.
This accomplishes two things:
  1. It becomes quantifiable and measurable: one trade is random. 100 trades are a data sample.
  2. It removes the incentive to cheat: being right is no longer an individual trade decision. You can lose money and be right. In fact, this association is stronger than the outcome orientation. It involves the neo-cortex in relationship to the dorso-lateral cortex (siege of identity). It literally rewrite the neural pathways to your identity

4. Clarity: Stop loss is a price, not a fundamental story, not a valuation exercise

Fairness is a trait common to all infants around the world. It manifests itself even before toddlers can speak. The orphan likes boundaries. He likes fairness. He does not like ambiguity. He hates favoritism.
Some people make the mistake of associating stop loss with change in fundamental story or valuation.
  1. Stories: prior to becoming a superstar with Emotional Intelligence, Daniel Goleman wrote an even more interesting book about the lies we tell ourselves. He argued that self deception is a built-in feature that covers its own tracks. We rationalise our bad choices. We will change our beliefs in order to match our actions. If You find excuses to avoid the gym, then You will fabricate excuses to allow losers in your portfolio.
  2. Valuations: Earnings estimates are notoriously inaccurate and jumpy. Forecast accuracy for analysts earnings estimates 1 year out within +/-10% range peaks at 25%, half a coin toss !
If a trade goes sour, You do not lose an investment thesis. You do not lose a P/E, DCF or some Frankenstein sum of the parts valuation either. You do not lose things that were outside your control in the first place.
You objectively lose two things: money and time. Risk is a number: this is how much You can afford to lose
5. When to set a stop loss
The best time to set a stop loss is … 5 minutes before entering a position. Stop losses must imperatively be set before entry
  1. Stop losses are necessary to calculate position sizes. If You do not set a limit on how much You can afford to lose, You may fail to appreciate what the market has in store for You
  2. Emotional interference: Once we enter a position, emotions kick in. Think of it as a prenuptial agreement. Commit to a price in writing, write it close to entry cost and price. Do not trust your brain with some abstract stop loss price. Your brain will renegotiate and it will trick You into a suboptimal decision (marketing buzzword for stupid mistake).
Stop Losses are necessary. We need to know when something is wrong, cut it out and move on for three reasons

6. Pre-mortem: enter each as if You expect them to fail

Everyone knows about post-mortem: this is the quarterly ritual when someone in management goes through your trading decisions with the benefit of hindsight…Grief
Pre-Mortem is a technique invented by Gary Klein: fast forward in time and visualise the decision You are about to make as if it was a failure.
For example, optimism usually peaks before entry. Even though our long term win rate is around 40%, we behave as if every trade was a winner. Consequently, we tend to oversize positions and delay stop loss.
Practice this powerful exercise for a month: just before entering a trade, imagine it will be loser that will have to be stopped out. Visualise yourself closing the trade at a loss, use the present tense. It may seem crazy but it accomplishes two things:
  1. Conservative position size: if you enter a trade expecting it to be a stopped out, You will naturally take smaller bets. You will stay out of illiquid issues
  2. Pre-packaged grief: we normally expect trades to work. When they don’t, we grieve our way to stop loss (Kubler-Ross). We negotiate with the inevitable. Now, if we expect every trade to fail, those which work will be good surprises. That do not perform as expected. It removes the emotional toll.

7. Execute the stop loss: re-parenting

A stop loss is just like any other trade. The difference is the meaning we assign to it can be potentially devastating.
The paradox is that beating ourselves up over losses reinforces the ego. Think of it as an orphan. Children have superb natural resilience. Beat the orphan, shame him, and he will retreat further, deeper. He will drape himself in the warm mantle of anger and call upon his resilience to endure the hardship. The orphan will endure but the child will yearn for forgiveness and love.
There is a link between self-forgiving and learning. Students at U-Penn who were taught to forgive themselves for their lack of assiduity have shparent4own 10% additional retention and 15% better grades than those who were instructed to enforce rigorous discipline. People who forgive and love themselves when they have trespassed their own boundaries tend to learn from their mistakes. In Jungian archetypes, this is the Ruler bringing back the orphan to the committee of the mind and thanking him for his protection. In other words, soothe yourself as if You were talking to your child. This is called re-parenting the orphan.
So, the more You forgive yourself, the less daunting stop loss becomes
The easier it is to execute stop losses, the easier to take new trades
The smoother the execution, the better the performance
Bottom line, forgive yourself for your mistakes and You will become a better portfolio manager.
In conclusion, watch this excellent video from Nobel laureate Daniel Kahneman on mistakes and pre-mortem

Why is humility an essential trait of profitable short-sellers ?

January 2016 was a difficult month for investors. According to Barry Ritholtz:s, 93% of investors lost money. Feeling helpless and crushed while watching your investments melt away is a terrible feeling that takes a devastating toll on emotional capital. There can’t possibly be anything worse feeling, except perhaps a skill aspiring short sellers have to master, humility.

If You want to profit from a bear market and if You want to hold your short positions long term, then You probably should read this article.

Turning away from the gates of Valhalla

In January, my performance roared out of the gate. i was up at around +5.9% mid-month. i was timidly positioned for a cautious slow start with a gross around 150% and -0.12% risk per trade. Despite being ridiculously conservative and vastlyunder-participating, performance was there day after day. Returns were not only one-sided either. It was quality performance : Longs pulled their weight too: sugar, gold, Fixed income, Forex USD Bull. This is the stuff hedge funds are made off. i have long argued that the secret to AUM is to perform when no-one else does. This was it. And then, i saw it coming. i even wrote a post about it on the first day it happened, January 20th . A short-squeeze was under way. At this point, i could have closed all positions, walk away with +5.9% and be the one who closed right at the bottom. The gates of heaven were opening: Valhalla, shiny and chrome.

But then, i did the unthinkable. i went to work, methodically reducing bet sizes. i chose to take as little profit as necessary. i chose to forfeit all those profits and promises and then sat by the side of the road, waiting for the market to humble me all over again. And sure enough it did. It peeled off rock star returns, money for my family, fame, marketability, anything anyone would have aspired for. By the time Mrs Market was done with me, i had lost 90% of my gains: i went from +5.9% to +0.59% in less than a week. i was humbled alright, but i ended up profitable still. More importantly, I am better positioned now for round 2. Humility is a critical skill and below are the lessons from my journey

Two certainties in life: death and short squeezes

There are two certainties in life: death and short squeezes. There is no way to predict how long, how brutal short squeezes will turn. Why they happen is irrelevant: exhaustion of selling pressure, irrelevant but reassuring good news, government gesticulation, monetary intervention. Whatever the reasons, short squeezes are part of the short landscape and i have to deal with them.

Someone told me that short selling a stock at $1 can still yield a juicy 50% return if it drops to 50 c. True, at least in theory. The real question is would he still be there after price rallied from 52 c. to 70 c., or 30% in 4 days ? Very few people have the testicular fortitude to hold steady. i don’t, and this is why i have developed a methodology that enables to ride short squeezes.

The triple R methodology to weather a short squeeze

Short squeezes happen with 100% certainty. It is not about if, only about when. Rather than thinking of them as pestilence, i came to appreciate them and make good use of them. After all, they provide good entry points, plentiful borrow and flush amateurs (it is hard to feel sympathy for impatient people who jump in the water after vaporetti). Without further ado, here is the triple R methodology:

  1. Reduce: bet sizes as soon as You perceive a short squeeze
  2. Ride the squeeze. Do not short sell on the way up, but trim Longs that got clobbered in the downturn
  3. Reload: once the squeeze fades: lower stop losses and top-up existing positions

In practice, it looks like the chart below:

Reduce

i am a trend follower. My objective is to ride positions as long as trends are valid. So, as soon as i see a squeeze coming, i reduce risk. i cannot control how vicious and how long they will last, but i can control how much damage they will inflict to the portfolio. So, the first step it to reduce bet sizes, so as to capture some profit and reduce subsequent potential damage.

Whether You trade German Bunds, US equities or colorful language with your significant other, You deal in one thing: risk. Risk is not a story. Risk is number. Since there is no way to predict how unpleasant a squeeze will be, it is prudent to bring risk to neutral as soon as You see it happening

Above is a picture of my portfolio in late January:

  1. Open Risk (pink bars) = Shares * (Cost – Stop Loss) / NAV
  2. CTR (Contribution, light green) = [Shares * (Price – Cost) + Realised P&L] / NAV (Scale out model, hence realised P&L)
  3. Weight (blue bars) = Market Value / NAV
  4. Weight at risk (orange bars) is weight (blue) where Open Risk (pink) is still negative

In simple terms, i try to bring the orange bars to neutral. At the onset of a squeeze, my objective is to have as many positions as possible with a neutral or positive risk carry. There are several ways to do it, but if You are new to the method, just halve your positions. Example: if You have -0.50% open risk and +0.25% profit, halving the position will reduce risk by a factor of 4: from -0.50% to -0.125%.

Important: make a note of the mental chatter while You are closing your positions. Which side wins: fear with “close it all, You don’t know what tomorrow is made off” or greed “just one lot, and leave everything on the table, that’s the way to get rich”. This mental chatter is an important window into your psychological market make-up. Journal your thoughts and emotions, You will find treasures

Ride

“Everybody’s got a plan until they get punched in the teeth”, ​Mike T​yson Mysteries

Now that all the hatches are closed, that i am safe and sound in the cockpit, time to find this bottle of stiff spirit and roll with the storm. The only permissible trades are Longs: close poor performers during squeezes and buy resilient stocks as they underperform.

The hard part is to accept to let go of your paper profits. You have to accept that short squeezes will come and go, that they will wreck your portfolio and that You will have to watch it happening and keep calm. This is part of the game. Roll with the punches.

Important: Journal your fears. There is a tremendous wealth of information here. This is an exceptional opportunity to learn about what makes You tick.

Reload

“it is not about how about hard You can punch, It is about how hard You can get punched and keep coming back”, Rocky Balboa

The whole purpose of the method is to go past the squeeze and reload. Alright, i got humbled, but i am still standing and now it is my turn to hit back. In the above chart, the positions with long green bars have gone through multiple stages of reduce/reload. Australia, Junk bonds, oil, natural gas and Jim O’Neil’s BRICs have delivered over time.

Once the squeeze is over and stocks start to roll over again, it is time to:

  1. Reset the stop losses lower: swing high + n * ATR
  2. Reload existing positions
  3. Reallocate resources to new promising shorts

Example: SPY was entered at 202. It represented -3.8% of the portfolio. Only 0.8% was necessary to cover so as to ensure break even on the remainder position. Previous stop loss was at 209.92. Current stop loss is at 201.23, below cost. This gives +0.15% of positive risk carry to be deployed to another tranche of SPY.

​Short-selling is not like Long buying: You cannot buy once and throw away the key. Shorts shrink, so You have to keep topping them up. Every time a stop loss is lowered, residual risk decreases. This goes far beyond eliminating risk. Positions continue to accumulate positive carry along the trend. This gives a distribution like the chart below where best performers have 5:1 reward to risk.

The -1 peak stands for positions being stopped out. Failure is the primary ingredient of success.

-2 and below positions are positions that woke up way below their stop losses. EWM was a good case in point: i closed a Short, open a Long and a week later the position lost 30% overnight. Volatility was high, so size was small anyhow. It was unpleasant but not hurtful.

As You can see, the methodology is simple: reduce risk, ride the storm and reload. Yet time and again, i have failed to execute and in the beginning at least so will You. Now, would You like to know why ?

Marshmallows, or why i used to fail to execute a simple methodology as the triple R

90% of trading is mental, the other half is just good maths. The triple R methodology relies on three principles

  1. Commitment: this methodology only works if i am committed to hold your positions long term. If i just want quick gratification, i will take profit too early and never allow them to fully mature. Similarly, i would never have the stamina to be slapped around so much
  2. Clear trading plan: commitment is directly proportional to the clarity of the trading plan. People don’t fail because they don’t have a plan. They stumble because they have complex ambiguous ones.
  3. Mental reframing: We are hardwired to do the exact opposite of the triple R​Loss aversion: Kahneman Tsversky have demonstrated that we are risk adverse with profits and risk seeking with losses (i am writing an awesome must-read & practical post about this + Jungian archetypes and neuro-chemistry BTW, so stay tuned)Process versus outcome: performance is the outcome of a good process. ​​delayed gratification: the single predictor of success in life is whether You will eat the marshmallow. Behind the adorable cruelty there is a profound principle Faith: it is simply the perseverance to trust and execute a plan. In the Jungian archetypes, those are the resilience of the orphan combined with the vision of the magician and the discipline of the ruler

Beyond the fascinating academic research on the brain, i came to find a simple conclusion. The reason why i failed was poor habits. As soon as i became conscious of my habits, i became able to fashion new ones. A simple habit is to reset stop loss. Another is to take profit at the onset of a rally. A third one is strict position sizing. All those habits have fashioned my investing style.

So, when the short squeeze was upon us, it was not hard to step aside and let it pass, however petulant it could be. It is a habit now.

Conclusion

“if You can meet triumph and disaster, And treat those impostors just the same”, Rudyard Kipling

The short side is the Antarctica of the markets. It is out there, not too far from civilization, but vastly unexplored at the same time. My stance on short selling is simple: if You think a stock is short, don’t fool people with writing a book about companies fooling people, don’t talk your book to Bloomberg reporters, don’t sue companies. Just locate some borrow, place the trade and let the market give its verdict. Those are no market wizards strategies, those are marketing wizard gimmicks.

Being a good short seller requires a lot of humility. A short squeeze is always around the corner. It takes a lot of strength to forego instant gratification for the sake of long term rewards. So, when the month ended at +0.59% instead of +5.9%, did i feel bad ? Of course, it hurt, but then: Mr Short Squeeze, is that all You got ? Now, my turn…

 

 

The Habit of Short-Selling

Selling short is not antipatriotic. It most certainly is not a hedge to Long. The only commonality with art is that 90% of artists starve. Short-selling is not some shadow conspiracy undermining the economy. No short sellers seats on any board on sinking ships. Short-selling is none of that.
Short-selling is a habit, just like exercise, healthy eating of brushing teeth. t may be mundane and boring, but eventually it is something that makes You healthier, stronger and eventually happier.
I have been a 100% systematic quantitative short-seller in a prestigious bottom-up fundamental house for 8 years. My mandate was to underperform the inverse of the longest bear market in modern history: Japan Equities. Every day, I woke up -100% net short, welcome to my world.

 

The hero’s journey of short-selling
“Too many people look at what is from a position of “what should be”, Bruce Lee
We, human love stories. We relate to the hero’s journey, because we aspire to be one. Now, ask yourself: do You want to retire on stories or on healthy returns ? If You still cling on to the story, then read no further and see You in the octagon of the markets…
Short-selling is a hero’s journey, but the story of redemption is unappealing. The journey is about unlearning, calculating, mastering emotions, baking the daily bread. Even if You choose never to sell short, that process itself will make You a stronger investor.
Please subscribe to my website. It is completely free and there are useful resources for serious market participants: Alpha Secure Capital | Alpha Secure Capital
The myths of short-selling
“The usefulness of a cup is its emptiness. Empty your cup”, Bruce Lee
  1. Unlimited downside: would You floor a Maserati knowing it has no brakes ? Well, if You can answer this question, either You can’t afford one or You have just fixed their notoriously bad brakes. Rule 0 of short-selling: set your stop loss before entering a position.
  2. Structural short: structural shorts are just like stupid people: they are everywhere. Profitable structural short is The Unicorn of short-selling (capital T, capital U). By the time the word structural short is associated with a stock, Borrow cost, short squeeze frequency, volume etc all suggest that the Long side is no longer the wrong side. More importantly.
  3. Fundamental shorts: Fundamentalist grieve their way into Short-selling (The view from the short-side: how we process emotions and the market signature of the 5 stages of grief Kubler-Ross by Laurent Bernut on Alpha Secure ). This is an expensive process: every bit of information that ultimately leads to a short has a price-tag. Everyone gets burned while short-selling. So, next time around, we take precautions. We want our story straight, our numbers squared, our facts checked and our boxes ticked. Well, if that is what You want: join the crowded short crew
  4. Contrarian shorts: there are two ways to kill bulls: either in 1. a  triumphant corrida with a colorful display of courageous faena as the bull bites the warm dust or 2. zapping them in a slaughterhouse while listening to cheesy pop songs. Second option does not get the glory but does not get the horns either. Selling short is done along Long selling.
The dynamics of Short-selling

1. Structural shorts are a form of a laziness

Back in hedge fund days, My manager took notice of my keen interest in selling-short but also took umbrage at the accompanying trading activity. He then proceeding to instruct me to look only for structural shorts. What he really meant was:
  1. I don’t want to bother with shorts: they are not fun. They are complicated, unsexy and messy
  2. I just want to go Long, have fun, find 2-3-4-10 baggers and be a rockstar, but:
    1. This is a hedge fund: so we need to hedge, right ? But also I want to:
    2. Charge big fees: no-one is stupid enough to pay 2-20 if I just sell futures or buy ATM puts
  3. So, I need to find shorts (… so as to generate cash and buy even more Longs…)
  4. Then, find me shorts i can SHORT & FORGET: throw away the key, they go down nice and easy. I can forget about them and then I can focus on finding 2-3-4-10 baggers and be a rockstar
Well, the fund went bust. This is not character but myth assassination here. There is no such thing as a structural short. The short book shrinks when successful so it requires more attention than the Long book. That is just a plain arithmetical truism.
2. The curse of successful shorts: the Short “magic skin” (peau-de-chagrin)BalzacMagicSkin01
Successful shorts are the “magic skin” of the markets: they shrink as they are successful. This means their good attributes such as Beta, sector  country, currency, market cap bracket, exchange exposures contribute less and less. It means You have less of a good thing when it works. This entails three things:
  1. Successful shorts must be replenished
  2. the Short book needs constant attention: shorts have naturally shorter cycle and shorter lifespan. So, they need constant attention
  3. Unsuccessful short must be weeded out: unsuccessful shorts balloon. So, You are left with more of something undesirable
This leads us to the secret behind successful short-selling. It is a simple yet powerful “haha” moment question that will alter your reality
A suivre…, to be continued…
If You want part II, III and IV, please subscribe to my website. It is completely free and there are useful resources for serious market participants: Alpha Secure Capital | Alpha Secure Capital

The Habit of Short-Selling

Has anybody gotten rich through automated trading?

Happy New Year from Alpha Secure Capital. This was an answer to a question on Quora. It has been read by more than 16,000 people.

Now, I am a digital nomad investor: Viet Nam, Singapore, Tokyo, KL, Venezia, Palermo, Reikjavik. Rents get paid in our sleep, balance gets bigger by 1-3% every week. Dream life, hey (*) ? Well, it came at great sacrifices.

Autotrade sub 30 mn is the tallest order in the trading industry. On the one hand, there are HFT shops, with whom there is no point competing. They already do a wondeful job at killing each other not so softly. On the other hand, point and click prop shops ecking penny after penny. Then, there are Delta one and deriv desks arbitraging small corners away. All those guys have the money, the resources, the access, the info, the programmers You will never have. You are outgunned, outnumbered and let’s face it: outside. Now, let the race begin.

It took me 15 years to mature the concepts, 3,694 hours to code, 3 2/3 years to run  and a lifetime to refine them. This has consumed my life, my waking hours, my sleep. Ever woke up breathless and feverishly write equations ? I nearly burned the house not once, but twice, because i forgot that there was something on the stove, while i was wrestling with some C#. Once, my wife came yelling at me for not taking care of our screaming baby. I just did not hear our daughter crying… on my lap. Well, code would not compile…

Sisyphus stones
Then, there is the sheer frustration of never being enough. Then there are bugs. One rule of thumb, never add, always subtract, always come to simplicity when solving bugs. Then, there are “100 year flood”, perfectly rhyming with the late “100 nights of solitude”. Then, there are platform issues. They are not meant to do scale-out/scale-in and adaptive position sizing. Then, there are those small issues that You will have to face one after the other.  There will be times where You wander and meander like Ulysses, “what if this, what if that ?” But there also those immensely gratifying days when You wake up with light and equations flowing through like when I found my personal holy grail of position sizing

After the Daedalus of development, one day the end will be in sight; it will be there, almost, just a few modules away. But then, there are those shortcuts You took 10 iterations ago that will come back and bite You. They stand between You and the finish line. And You know that tackling them means overhauling the entire architecture.
This is the realm of frustration. The last mile is always the hardest. Please remember this though: autotrade is like watch-making. Until the last cog fits in the right place, your clock will always be off, so don’t give up, never give up.

Then, You run your own money, face drawdowns, go back to fix the last few bugs. Then, You run it on small amounts. The best moments are not when You make your previous monthly salary in a week while kitesurfing or going wine tasting. The most beautiful moments are when You make those few hundred dollars week after week and when You finally know it is viable. It feels like watching a flower blossom. This is the best sleep You will have in your lifetime, well at least for 3 months …

Here are the lessons I learned. A viable trading system is built backward:

  1. Focus on the short side: the short side is notoriously harder. If Your system works on the short side, it will work on the Long side. Any 3 star Michelin chef can flip burgers. Now how many Burger king employees can do 3 star meals ?
  2. Focus on the exit first: a race is never won until the finish line is crossed. Some of your positions are marathonians, some are sprinters. You never know until You see them on the field.
  3. Stop loss: it is the only variable that has a direct influence on 3 out of 4 variables of your trading hedge
  4. Money management is key: how to preserve capital when your system won’t work and how to take calculated risk when it does ? This is where the heavy mathematical artillery should be concentrated, not on the entry. Think about it: everyone owns Apple. The difference that makes the difference is how big You are
  5. Simplicity: complexity is a form of laziness. If your solution is still complex, it means You have not worked hard enough to find a simple one. There is no exception to this truth
  6. Symmetry: once the short side delivers, translate it to the long side. You will have unambiguous signals, unified risk management
  7. Watch Star Trek and the original Kardashians, they were not as villains as the newer ones, breaking bad, desperate house wives etc
  8. Then, last and very least, but first take the dogs out. And then finally, sorry don’t forget to water the plants first. And then finally, oops have You called your mother yet ? And then finally, take the trash out and after a good night of sleep, You may think about entry. Entry is at the very bottom pile of the priority list of an autotrade strategy, long after labeling priorities on multiple positions

In the end, You will realise that the goal was never about money. It was first about the freedom from a paycheck and the long term uncertainty of retirement. Rich and wealthy are not synonymous. Rich should be the experiences You accumulate over your life. Now, we live out of our suitcases, frugally as usual, but what a life! Speaking of which, time for a Prosecco with our neighbours, our landlord the architect and his buddy the last Gondola maker in Venezia

(*) Now, the highlights of our week is to hunt for consecutive stop losses. We have excess capacity. We have suffered a great deal coming up with our strategy on MT4. Most modules had to be built from the ground up. We  genuinely want to spare this Sisyphean ordeal to aspiring autotraders.
So, we will choose 2 or 3 people and help them build their strategy.
I can help anyone formalise their own strategy through a thorough guided discovery process. This is not pleasant.
Then on the MT4 coding side, the person I work with is a senior programmer for the US Department of Defense (be nice to him or he will bring democracy to your computer…). I can code alright, but his stuff is military grade… Reach out if You are interested, or if You like what You read

Has anybody gotten rich through automated trading?

How complex are the algorithms used by financial institutions such as Goldman Sachs and other hedge funds in their proprietary trading so…

This is an answer to a question on Quora. It got re-posted and shared across Quora users.

Answer by Laurent Bernut:

Complexity is a form of laziness
Complexity is fragile: it works until it does not

There are two types of algos: low-latency and systematic algos.

Low-latency is the realm of HFT. Those algos can be quite intense. Read dark pools or flash boys. There are now algos gaming other algos. It is a bit like the “sperm war” in the “red queen”, a book on evolutionary psychology.

At the other end of the spectrum is systematic trading. It stems of the belief that if investment is a process, then it should be automated. Those algos are conceptually easy to understand. They are not however always easy to program.

At the end of the day, algos are a reflection of the philosophy, beliefs of those who design and code them. Those who have not mastered their craft will gladly put lipstick on a pig, by adding complexity to flawed concepts.
Those who have worked a bit harder will simplify. Simplicity is not easy

Sorry for the philosophical answer

How complex are the algorithms used by financial institutions such as Goldman Sachs and other hedge funds in their proprietary trading so…