This is a phenomena that has been talked about a lot and said to influence abilities as diverse as sports, music, exam scores, sex drive, etc. Never seen the reference to trading ability before.



 by Martin Lindquist with the assistance of Vic

This is a chapter from Bacon with some changes to better describe the switches the trader may find him/her self in:

"Some amateur traders carry inconsistency to such a degree that they demand consistency from the market, while at the same time being utterly inconsistent in their methods of trading. It's not the markets that beat these traders - it's the switches!

Trading is simple. Everything about the game is logical and common sense and elementary. You don't need a whole staff of Phd's. All the figuring and the mathematics and the mechanics of trading can be understood by a child in junior-high school. But the game is decked out in an endless number of minor contradictions and open switches and deadfall traps, in order to lure the average trader into doing everything wrong.

If the average trader kept out of all these switches and traps, then the powers-that-be would have to make the markets far more complicated in order to insure the fact that the majority of traders continue to lose and thus continue to furnish money to keep up the market.

The amateurs who trade so carelessly and who fall into all the wrong switches, do not stop to consider the percentages of their rightful losses. When an amateur goes to the market and loses nine days or months in a row and loses all his capital, he has lost many times what the percentage calls for. He has no right to lose so much. It's almost as if he did it on purpose!

Look at the percentages. For example, suppose the stock market goes up an average of 5% per year. If so, a blind play on January 1st, or February 6th, or any mechanically designated day and holding for a year, will give 5% per year, over a period of time.

The amateur trader makes every possible wrong move and gets caught in every wrong switch. Thus the careless trader loses from 33% to 100% of total trading capital over a period of time, instead of earning from 5% and more per year on the money put in the market.

The amateur goes long only to have the stock turn south. He goes short and the stock stands still. He goes short a straddle only to have the stock start swinging violently and then sink down. Then when he switches back to short the stock runs up ten percent.

This situation gives a rough idea of why some system promoters claim - and rightly - that for the average trader, ANY system is better than no system at all! At least the system, no matter how bad it is, keeps him out of the switches.

But, of course, we are not studying here to play any senseless systems or methods. We want to play the smartest angles and plans of the "insiders" and the professionals. And it should be clear to straight thinking readers that what the professionals win is the difference between the amateurs actual losses of from 33% to 100% of betting capital and what the markets move up over time, minus commissions.

The professionals, including the hedge fund managers who make good from putting a stake available to other peoples trading, can win no more than this margin. The market gives its 5% first (for example) and then the balance of what the amateurs lose is cut up among the professionals. Once a student of trading learns to view the whole picture of trading operations as a picture of percentages, all these facts of life become clear.

As noted, it's the switches and not the markets that beat the amateur trader. A whole volume of books could not record all the possible switches that the amateurs can get themselves into. But here are a few that the professionals take good care to avoid:

First there is the switch of position: The professional trades long, only, because there is the least unfavourable percentage against a long position due to long term positive market drift. He never goes short; that keeps him out of the amateur's position switches.

Besides sticking to long positions only, the professional always makes trades of even amounts. He isn't like the amateur who lets greed or fear change the size of his trades. The beginner plunges on a trend that suddenly turns, then puts on a light trade on a contrarian situation that does turn around. He keeps switching amounts and positions so that he never has a worthwhile trade on when the market goes his way. He is always one day behind the direction of a stock and several days behind the rythm of the market.

The professional trader gauges his capital so that he has a planned series of trades of even amounts. If he is a big winner at the end of one month and feels that the next month will be good, he plans for a series of slightly larger trades for the entire next month. If he is not too pleased about the outlook for the next month, he plans on using a smaller scale of even trades for the whole month.

The amateur never does anything right when it comes to the handling of trading capital. He trades heavily when he has just gotten his bonus or the fund he's managing gets new inflow, which if it is in spring is the poorest time of the year for the amateur's corny method of picking the trending favourites. Then in the summer he trades heavily again on the type of contrarian setups that he should have traded in the spring, but summer is usually more serially correlated, so he loses.

In late summer the trader feels the pinch in the bankroll department. He trades lightly. By early fall he has used up most of his trading capital, so he can only make one trade. It is a stab on pyramiding a three week move that loses when the Fed chief blocks the move and the market crashes in the end of the third week when the first two weeks were up. Then when winter comes he has no money with which to trade, even if a terrific setup for a trade presents itself.

One of the worst (and most common) switches of all is to change methods of trade selection without giving the first method a fair chance to win. That is one of the switches that the professionals avoid by doing a statistical workout of their methods before actual trading, so that they know just what to expect. Amateurs switch from one method, one news story, one hunch, one angle, one stock, or one type of market to another, without reason.

The first wrong switch breeds a fear of wrong switches, which automatically puts the trader into an endless chain of unfortunate decisions. For example, the amateur starts trading bearishly based on some reports of terrorists threaths or the negative outlook for the dollar. But he changes to long positions based on the good earnings reports, just before the market tumbles in a fine losing streak. He is afraid, at first, of getting caught in another switch, so he dares not jump right back to shorts based on that Roach is coming out with a gloomy view. He sticks to the fact that consumer sentiment continues to rise. But the markets continue to go down while all his news stories are bullish. Finally he can't stand it any more, so he goes back to short because the President is losing trust among the voters or because some species somewhere caught a virus. Yes, he goes back, just in time to run into the long overdue streak of up days.

But there is now use kidding: The professionals keep out of switches by waiting for the sound trades with a positive expectancy. They don't take bad trades at any end of the trading week. They don't take bad trades - period!

Everybody knows that there is no better sport or entertainment than taking family or list members to the market for a day's fun. Everybody eats and drinks from the meals for a lifetime and laughs and hollers. Everybody in the party makes crazy statements as basis for trades, such as "It's like 87 again", "May is down a lot just like in 2000, better sell it all" or "It's inverted, the market always goes down when it's inverted", or "Everybody's long, is there a psychological disjoint", and then shrieks "I was right all along" as the market breaks down the last 15 day stretch. That's some fun! But it's fun only. It's NOT professional play.

The Professionals always remember that it's not the markets that beats the trader– it's the switches.



UPDATE 1/31/2011:

Contestants Summary:

- 31 Spec-listers contributed to the 2011 Investment Contest with "specific" recommendations.

- Average 4 recommendations per person (mean of 4.2, median and mode of 4) came in.

- 6 contestants gave only 1 recommendation, 3 gave only 2 and thus 9 out of the total 31 have NOT given the minimum 3 recommendations needed as per the Rules clarified by Ken Drees.

- The Hall of Fame entry for the largest number of ideas (did someone say diversification?) is from Tim Melvin, close on whose heels are J. T. Holley with 11 and Ken Drees with 10.

- The most creatively expressed entry of course has come from Rocky Humbert.

- At this moment 17 out of 31 contestants are in positive performance territory, 14 are in negative performance territory.

- Barring a major outlier of a 112.90% loss on the Option Strategy of Phil McDonnell (not accounting for the margin required for short options, but just taking the ratio of initial cash inflow to outflow):

- Average of all Individual contestant returns is -2.54% and the Standard Deviation of returns achieved by all contestants is 5.39.

- Biggest Gainer at this point is Jared Albert (with his all in single stock bet on REFR) with a 22.87% gain. The only contestant a Z score greater than 2 ( His is actually 4.72 !!)

- Biggest Loser at this point (barring the Giga-leveraged position of Mr. McDonnell) is Ken Drees at -10.36% with a Z Score that is at -1.45.

- Wildcards have not been accounted for as at this point, with wide
deviations of recommendations from the rules specified by most. While 9
participants have less than 3 recommendations, those with more than 4
include several who have not chosen to specify which 3 are their primary recommends. Without clarity on a universal measurability wildcard accounting is on hold. Those making more than 1 recommendations would find that their aggregate average return is derived by taking a sum of returns of individual positions divided by the number of recommends. Unless specified by any person that positions are taken in a specific ratio its equal sums invested approach.

Contracts Summary:

- A total of 109 contracts are utilized by the contestants across bonds, equity indices (Nikkei, Kenyan Stocks included too!), commodities, currencies and individual stock positions.

- The ratio of Shorts to Longs across all recommendations, irrespective of the type of contract (call, put, bearish ETF etc.) is 4 SELL orders Vs 9 Buy Orders. Not inferring that this list is more used to pressing the Buy Button. Just an occurence on this instance.

- The Average Return, so far, on the 109 contracts utilized is -1.26% with a Standard Deviation of 12.42%. Median Return is 0.39% and the mode of Returns of all contracts used is 0.

- The Highest Return is on MICRON TECH at 28.09, if one does not account for the July 2011 Put 25 strike on SLV utilized by Phil McDonnell.

- The Lowest Return is on IPTV at -50%, if one does not account for the Jan 2012 Call 40 Strike on SLV utilized by Phil McDonnell.

- Only Two contracts are having a greater than 2 z score and only 3 contracts are having a less than -2 Z score.

Victor Niederhoffer wrote:

One is constantly amazed at the sagacity in their fields of our fellow specs. My goodness, there's hardly a field that one of us doesn't know about from my own hard ball squash rackets to the space advertising or our President, from surfing to astronomy. We certainly have a wide range.

May I suggest without violating our mandate that we consider our best sagacities as to the best ways to make a profit in the next year of 2011.

My best trades always start with assuming that whatever didn't work the most last year will work the best this year, and whatever worked the best last year will work the worst this year. I'd be bullish on bonds and bearish on stocks, bullish on Japan and bearish on US stocks.

I'd bet against the banks because Ron Paul is going to be watching them and the cronies in the institutions will not be able to transfer as much resources as they've given them in the past 2 years which has to be much greater in value than their total market value.

I keep wondering what investments I should make based on the hobo's visit and I guess it has to be generic drugs and foods.

What ideas do you have for 2011 that might be profitable? To make it interesting I'll give a prize of 2500 to the best forecast, based on results as of the end of 2011.

David Hillman writes: 

"I do know that a sagging Market keeps my units from being full."

One would suggest it is a sagging 'economy' contributing to vacancy, not a sagging 'market'. There is a difference. 

Ken Drees, appointed moderator of the contest, clearly states the new rules of the game:

 1. Submissions for contest entries must be made on the last two days of 2010, December 30th or 31st.
2. Entries need to be labeled in subject line as "2011 contest investment prediction picks" or something very close so that we know this is your official entry.
3. Entries need 3 predictions and 1 wildcard trade prediction (anything goes on the wildcard).

4. Extra predictions may be submitted and will be judged as extra credit. This will not detract from the main predictions and may or may not be judged at all.

5. Extra predictions will be looked on as bravado– if you've got it then flaunt it. It may pay off or you may give the judge a sour palate.

The desire to have entries coming in at years end is to ensure that you have the best data as to year end 2010 and that you don't ignite someone else to your wisdom.

Market direction picks are wanted:

Examples: 30 year treasury yield will fall to 3% in 2011, S&P 500 will hit "x" by June, and then by "y" by December 2011.

The more exact your prediction is, the more weight will be given. The more exact your prediction, the more weight you will receive if right and thus the more weight you will receive if wrong. If you predict that copper will hit 5.00 dollars in 2011 and it does you will be given a great score, if you say that copper will hit 5.00 dollars in march and then it will decline to4.35 and so forth you will be judged all along that prediction and will receive extra weight good or bad. You decide on how detailed your submission is structured.

Will you try to be precise (maybe foolhardy) and go for the glory? Or will you play it safe and not stand out from the crowd? It is a doubled edged sword so its best to be the one handed market prognosticator and make your best predictions. Pretend these predictions are some pearls that you would give to a close friend or relative. You may actually help a speclister to make some money by giving up a pearl, if that speclister so desires to act upon a contest–G-d help him or her.

Markets can be currency, stocks, bonds, commodities, etc. Single stock picks can be given for the one wildcard trade prediction. If you give multiple stock picks for the wildcard then they will all be judged and in the spirit of giving a friend a pearl–lets make it "the best of the best, not one of six".

All judgments are the Chair's. The Chair will make final determination of the winner. Entries received with less than 3 market predictions will not be considered. Entries received without a wildcard will be considered.The spirit of the contest is "Give us something we can use".

Bill Rafter adds: 

Suggestion for contest:

"Static" entry: A collection of up to 10 assets which will be entered on the initial date (say 12/31/2010) and will be unaltered until the end data (i.e. 12/31/2011). The assets could be a compilation of longs and shorts, or could have the 10 slots entirely filled with one asset (e.g. gold). The assets could also be a yield and a fixed rate; that is one could go long the 10-year yield and short a fixed yield such as 3 percent. This latter item will accommodate those who want to enter a prediction but are unsure which asset to enter as many are unfamiliar with the various bond coupons.

"Rebalanced" entry: A collection of up to 10 assets which will be rebalanced on the last trading day of each month. Although the assets will remain unchanged, their percentage of the portfolio will change. This is to accommodate those risk-averse entrants employing a mean-reversion strategy.

Both Static and Rebalanced entries will be judged on a reward-to-risk basis. That is, the return achieved at the end of the year, divided by the maximum drawdown (percentage) one had to endure to achieve that return.

Not sure how to handle other prognostications such as "Famous female singer revealed to be man." But I doubt such entries have financial benefits.

I'm willing to be an arbiter who would do the rebalancing if necessary. I am not willing to prove or disprove the alleged cross-dressers.

Ralph Vince writes:

A very low volume bar on the weekly (likely, the first of two consecutive) after a respectable run-up, the backdrop of rates having risen in recent weeks, breadth having topped out and receding - and a lunar eclipse on the very night of the Winter Solstice.

If I were a Roman General I would take that as a sign to sit for next few months and do nothing.

I'm going to sit and do nothing.

Sounds like an interim top in an otherwise bullish, long-term backdrop.

Gordon Haave writes: 

 My three predictions:

Gold/ silver ratio falls below 25 Kenyan stock market outperforms US by more than 10%

Dollar ends 10% stronger compared to euro

All are actionable predictions.

Steve Ellison writes:

I did many regressions looking for factors that might predict a year-ahead return for the S&P 500. A few factors are at extreme values at the end of 2010.

The US 10-year Treasury bond yield at 3.37% is the second-lowest end-of year yield in the last 50 years. The S&P 500 contract is in backwardation with the front contract at a 0.4% premium to the next contract back, the second highest year-end premium in the 29 years of the futures.

Unfortunately, neither of those factors has much correlation with the price change in the S&P 500 the following year. Here are a few that do.

The yield curve (10-year yield minus 3-month yield) is in the top 10% of its last 50 year-end values. In the last 30 years, the yield curve has been positively correlated with year-ahead changes in the S&P 500, with a t score of 2.17 and an R squared of 0.143.

The US unemployment rate at 9.8% is the third highest in the past 60 years. In the last 30 years, the unemployment rate has been positively correlated with year-ahead changes in the S&P 500, with a t score of 0.90 and an R squared of 0.028.

In a variation of the technique used by the Yale permabear, I calculated the S&P 500 earnings/price ratio using 5-year trailing earnings. I get an annualized earnings yield of 4.6%. In the last 18 years, this ratio has been positively correlated with year-ahead changes in the S&P 500, with a t score of 0.92 and an R squared of

Finally, there is a negative correlation between the 30-year S&P 500 change and the year-ahead change, with a t score of -2.28 and an R squared of 0.094. The S&P 500 index price is 9.27 times its price of 30 years ago. The median year-end price in the last 52 years was 6.65 times the price 30 years earlier.

Using the predicted values from each of the regressions, and weighting the predictions by the R squared values, I get an overall prediction for an 11.8% increase in the S&P 500 in 2011. With an 11.8% increase, SPY would close 2011 at 140.52.

Factor                  Prediction      t       N    R sq
US Treasury yield curve      1.162    2.17      30   0.143
30-year change               1.052   -2.28      52   0.094
Trailing 5-year E/P          1.104    0.92      18   0.050
US unemployment rate         1.153    0.90      30   0.028

Weighted total               1.118
SPY 12/30/10               125.72
Predicted SPY 12/30/11     140.52

Jan-Petter Janssen writes: 

PREDICTION I - The Inconvenient Truth The poorest one or two billion on this planet have had enough of increasing food prices. Riots and civil unrest force governments to ban exports, and they start importing at any cost. World trade collapses. Manufacturers of farm equipment will do extremely well. Buy the most undervalued producer you can find. My bet is
* Kverneland (Yahoo: KVE.OL). NOK 6.50 per share today. At least NOK 30 on Dec 31th 2011.

PREDICTION II - The Ultimate Bubble The US and many EU nations hold enormous gold reserves. E.g. both Italy and France hold the equivalent of the annual world production. The gold meme changes from an inflation hedge / return to the gold standard to (a potential) over-supply from the selling of indebted nations. I don't see the bubble bursting quite yet, but
* Short gold if it hits $2,000 per ounce and buy back at $400.

PREDICTION III - The Status Quo Asia's ace is cheap labor. The US' recent winning card is cheap energy through natural gas. This will not change in 2011. Henry Hub Feb 2011 currently trades at $4.34 per MMBtu. Feb 2012 is at $5.14. I would
* Short the Feb 2012 contract and buy back on the last trading day of 2011.

Vince Fulco predicts:

 This is strictly an old school, fundamental equity call as my crystal ball for the indices 12 months out is necessarily foggy. My recommendation is BP equity primarily for the reasons I gave earlier in the year on June 5th (stock closed Friday, June 4th @ $37.16, currently $43.53). It faced a hellish downdraft post my mention for consideration, primarily due to the intensification of news flow and legal unknowns (Rocky articulated these well). Also although the capital structure arb boys savaged the equity (to 28ish!), it is up nicely to year's end if one held on and averaged in with wide scales given the heightened vol.

Additional points/guesstimates are:

1) If 2010 was annus horribilis, 2011 with be annus recuperato. A chastened mgmt who have articulated they'll run things more conservatively will have a lot to prove to stakeholders.

2) Dividend to be re-instated to some level probably by the end of the second quarter. I am guessing $1.00 annualized per ADS as a start (or
2.29%), this should bring in the index hugging funds with mandates for only holding dividend payers. There is a small chance for a 1x special dividend later in the year.

3) Crude continues to be in a state of significant profitability for the majors in the short term. It would appear finding costs are creeping however.

4) The lawsuits and additional recoveries to be extracted from the settlement fund and company directly have very long tails, on the order of 10 years.

5) The company seems fully committed to sloughing off tertiary assets to build up its liquid balance sheet. Debt to total capital remains relatively low and manageable.

6) The stock remains at a significant discount to its better-of breed peers (EV/normalized EBITDA, Cash Flow, etc) and rightly so but I am betting the discount should narrow back to near historical levels.

Potential negatives:

1) The company and govt have been vastly understating the remaining fuel amounts and effects. Release of independent data intensifies demands for a much larger payout by the company closer to the highest end estimates of $50-80B.

2) It experiences another similar event of smaller magnitude which continues to sully the company's weakened reputation.

3) China admits to and begins to fear rampant inflation, puts the kabosh to the (global) economy and crude has a meaningful decline the likes of which we haven't seen in a few years.

4) Congress freaks at a >$100-120 price for crude and actually institutes an "excess profits" tax. Less likely with the GOP coming in.

A buy at this level would be for an unleveraged, diversified, longer term acct which I have it in. However, I am willing to hold the full year or +30% total return (including special dividend) from the closing price of $43.53 @ 12/30/10, whichever comes first. Like a good sellside recommendation, I believe the stock has downside of around 20% (don't they all when recommended!?!) where I would consider another long entry depending on circumstances (not pertinent to the contest).

Mr. Albert enters: 

 Single pick stock ticker is REFR

The only way this gold chain wearing day trader has a chance against all the right tail brain power on the list is with one high risk/high reward put it all on red kind of micro cap.

Basic story is this company owns all the patents to what will become the standard for switchable glazings (SPD smart glass). It's taken roughly 50 years of development to get a commercialized product, and next year Mercedes will almost without doubt use SPD in the 2012 SLK (press launch 1/29/11 public launch at the Geneva auto show in march 2011).

Once MB validate the tech, mass adoption and revenues will follow etc and this 'show me' stock will rocket to the moon.

Dan Grossman writes:

Trying to comply with and adapt the complex contest rules (which most others don't seem to be following in any event) to my areas of stock market interest:

1. The S&P will be down in the 1st qtr, and at some point in the qtr will fall at least

2. For takeover investors: GENZ will (finally) make a deal to be acquired in the 1st qtr for a value of at least $80; and AMRN after completion of its ANCHOR trial will make a deal to be acquired for a price of at least $8.

3. For conservative investors: Low multiple small caps HELE and DFG will be up a combined average of 20% by the end of the year.

For my single stock pick, I am something of a johnny-one-note: MNTA will be up lots during the year — if I have to pick a specific amount, I'd say at least 70%. (My prior legal predictions on this stock have proved correct but the stock price has not appropriately reflected same.)

Finally, if I win the contest (which I think is fairly likely), I will donate the prize to a free market or libertarian charity. I don't see why Victor should have to subsidize this distinguished group that could all well afford an contest entrance fee to more equitably finance the prize.

Best to all for the New Year,


Gary Rogan writes:

 1. S&P 500 will rise 3% by April and then fall 12% from the peak by the end of the year.
2. 30 year treasury yields will rise to 5% by March and 6% by year end.
3. Gold will hit 1450 by April, will fall to 1100 by September and rise to 1550 by year end.

Wildcard: Short Netflix.

Jack Tierney, President of the Old Speculator's Club, writes: 

Equal Amounts in:

TBT (short long bonds)
YCS (short Yen)
GRU (Long Grains - heavy on wheat)
CHK (Long NG - takeover)

(Wild Card)
BONXF.PK or BTR.V (Long junior gold)

12/30 closing prices (in order):


Bill Rafter writes:

Two entries:

Buy: FXP and IRWD

Hold for the entire year.

William Weaver writes:

 For Returns: Long XIV January 21st through year end

For Return/Risk: Long XIV*.30 and Long VXZ*.70 from close today

I hope everyone has enjoyed a very merry holiday season, and to all I wish a wonderful New Year.



Ken Drees writes:

Yes, they have been going up, but I am going contrary contrary here and going with the trends.

1. Silver: buy day 1 of trading at any price via the following vehicles: paas, slw, exk, hl –25% each for 100% When silver hits 39/ounce, sell 10% of holdings, when silver hits 44/ounce sell 30% of holdings, when silver hits 49 sell 60%–hold rest (divide into 4 parts) and sell each tranche every 5 dollars up till gone–54/oz, 59, 64, 69.

2. Buy GDXJ day 1 (junior gold miner etf)—rotation down from majors to juniors with a positive gold backdrop. HOLD ALL YEAR.

3. USO. Buy day 1 then do—sell 25% at 119/bbl oil, sell 80% at 148/bbl, sell whats left at 179/bbl or 139/bbl (whichever comes first after 148)

wildcard: AMEX URANUIM STOCKS. UEC, URRE, URZ, DNN. 25% EACH, buy day 1 then do SELL 70% OF EVERYTHING AT 96$LB u http://www.uxc.com/ FOR PRICING, AND HOLD REST FOR YEAR END.

Happy New Year!

Ken Drees———keepin it real.

Sam Eisenstadt forecasts:

My forecast for the S&P 500 for the year ending Dec 31, 2011;

S&P 500       1410

Anton Johnson writes: 

Equal amounts allocated to:

EDZ Short moc 1-21-2011, buy to cover at 50% gain, or moc 12/30/2011

VXX Short moc 1-21-2011, buy to cover moc 12/30/2011

UBT Short moo 1-3-2011, buy to cover moc 12/30/2011

Scott Brooks picks: 


Evenly between the 4 (25% each)

Sushil Kedia predicts:


1) Gold
2) Copper
3) Japanese Yen

30% moves approximately in each, within 2011.

Rocky Humbert writes:

(There was no mention nor requirement that my 2011 prediction had to be in English. Here is my submission.) … Happy New Year, Rocky

Sa aking mahal na kaibigan: Sa haba ng 2010, ako na ibinigay ng ilang mga ideya trading na nagtrabaho sa labas magnificently, at ng ilang mga ideya na hindi na kaya malaki. May ay wala nakapagtataka tungkol sa isang hula taon dulo, at kung ikaw ay maaaring isalin ito talata, ikaw ay malamang na gawin ang mas mahusay na paggawa ng iyong sariling pananaliksik kaysa sa pakikinig sa mga kalokohan na ako at ang iba pa ay magbigay. Ang susi sa tagumpay sa 2011 ay ang parehong bilang ito ay palaging (tulad ng ipinaliwanag sa pamamagitan ng G. Ed Seykota), sa makatuwid: 1) Trade sa mga kalakaran. 2) Ride winners at losers hiwa. 3) Pamahalaan ang panganib. 4) Panatilihin ang isip at diwa malinaw. Upang kung saan gusto ko idagdag, fundamentals talaga bagay, at kung ito ay hindi magkaroon ng kahulugan, ito ay hindi magkaroon ng kahulugan, at diyan ay wala lalo na pinakinabangang tungkol sa pagiging isang contrarian bilang ang pinagkasunduan ay karaniwang karapatan maliban sa paggawa sa mga puntos. (Tandaan na ito ay pinagkasunduan na ang araw ay babangon na bukas, na quote Seth Klarman!) Pagbati para sa isang malusog na masaya at pinakinabangang 2011, at siguraduhin na basahin www.rockyhumbert.com kung saan ako magsulat sa Ingles ngunit ang aking mga saloobin ay walang malinaw kaysa talata na ito, ngunit inaasahan namin na ito ay mas kapaki-pakinabang.

Dylan Distasio comments: 

Gawin mo magsalita tagalog?

Gary Rogan writes:

After a worthy challenge, Mr. Rogan is now also a master of Google Translate, and a discoverer of an exciting fact that Google Translate calls Tagalog "Filipino". This was a difficult obstacle for Mr. Rogan to overcome, but he persevered and here's Rocky's prediction in English (sort of):

My dear friend: Over the course of 2010, I provided some trading ideas worked out magnificently, and some ideas that are not so great. There is nothing magical about a forecast year end, and if you can translate this paragraph, you will probably do better doing your own research rather than listening to the nonsense that I and others will give. The key to success in 2011 is the same as it always has (as explained by Mr. Ed Seykota), namely: 1) Trade with the trend.

2) Ride cut winners and losers. 3) Manage risk. 4) Keep the mind and spirit clear. To which I would add, fundamentals really matter, and if it does not make sense, it does not make sense, and there is nothing particularly profitable about being a contrarian as the consensus is usually right but turning points. (Note that it is agreed that the sun will rise tomorrow, to quote Seth Klarman) Best wishes for a happy healthy and profitable 2011, and be sure to read www.rockyhumbert.com which I write in English but my attitude is nothing clearer than this paragraph, but hopefully it is more useful.

Tim Melvin writes:

Ah the years end prediction exercise. It is of course a mostly useless exercise since not a one of us can predict what shocks, positive or negative, the world and the markets could see in 2011. I find it crack up laugh out loud funny that some pundits come out and offer up earnings estimates, GDP growth assumptions and interest rate guesses to give a precise level for the year end S&P 500 price. You might as well numbers out of a bag and rearrange them by lottery to come up with a year end number. In a world where we are fighting two wars, a hostile government holds the majority of our debt and several sovereign nations continually teeter on the edge of oblivion it's pretty much ridiculous to assume what could happen in the year ahead. Having said that, as my son's favorite WWE wrestler when he was a little guy used to say "It's time to play the game!"

Ill start with bonds. I have owned puts on the long term treasury market for two years now. I gave some back in 2010 after a huge gain in 2009 but am still slightly ahead. Ill roll the position forward and buy January 2012 puts and stay short. When I look at bods I hear some folks talking about rising basic commodity prices and worrying about inflation. They are of course correct. This is happening. I hear some other really smart folks talking of weak real estate, high jobless rates and the potential for falling back into recession. Naturally, they are also exactly correct. So I will predict the one thing no one else is. We are on the verge of good old fashioned 1970s style stagflation. Commodity and basic needs prices will accelerate as QE2 has at least stimulated demand form emerging markets by allowing these wonderful credits to borrow money cheaper than a school teacher with a 750 FICO score. Binds go lower as rates spike. Our economy and balance sheet are a mess and we have governments run by men in tin hats lecturing us on fiscal responsibility. How low will they go Tim? How the hell do I know? I just think they go lower by enough for me to profit.

 Nor can I tell you where the stock market will go this year. I suspect we have had it too good for too long for no reason so I think we get at least one spectacular gut wrenching, vomit inducing sell off during the year. Much as lower than expected profits exposed the silly valuations of the new paradigm stocks I think that the darling group, retail , will spark a sell-off in the stock market this year. Sales will be up a little bit but except for Tiffany's (TIF) and that ilk margins are horrific. Discounting started early this holiday and grew from there. They will get steeper now that that Santa Claus has given back my credit card and returned to the great white north. The earnings season will see a lot of missed estimates and lowered forecasts and that could well pop the bubble. Once it starts the HFT boys and girls should make sure it goes lower than anyone expects.

Here's the thing about my prediction. It is no better than anyone else's. In other words I am talking my book and predicting what I hope will happen. Having learned this lesson over the years I have learned that when it comes to market timing and market direction I am probably the dumbest guy in the room. Because of that I have trained myself to always buy the stuff that's too cheap not to own and hold it regardless. After the rally since September truly cheap stuff is a little scarce on the ground but I have found enough to be about 40% long going into the year. I have a watch list as long as a taller persons right arm but most of it hover above truly cheap.

Here is what I own going into the year and think is still cheap enough to buy. I like Winn Dixie (WINN). The grocery business sucks right now. Wal mart has crushed margins industry wide. That aside WINN trades at 60% of tangible book value and at some point their 514 stores in the Southeast will attract attention from investors. A takeover here would be less than shocking. I will add Presidential Life (PLFE) to the list. This stock is also at 60% of tangible book and I expect to see a lot of M&A activity in the insurance sector this year and this should raise valuations across the board. I like Miller Petroleum (MILL) with their drilling presence in Alaska and the shale field soft Tennessee. This one trades at 70% of tangible book. Ill add Imperial Sugar (IPSU), Syms (SYMS) and Micron tech (MU) and Avatar Holdings (AVTR) to my list of cheapies and move on for now.

I am going to start building my small bank portfolio this year. Eventually this group becomes the F-you walk away money trade of the decade. As real estate losses work through the balance sheet and some measure of stability returns to the financial system, perhaps toward the end of the year the small baileys savings and loan type banks should start to recover. We will also see a mind blowing M&A wave as larger banks look to gain not just market share but healthy assets to put on the books. Right now these names trade at a fraction of tangible book value. They will reach a multiple of that in a recovery or takeover scenario. Right now I own shares of Shore Bancshares (SHBI), a local bank trading at 80% of book value and a reasonably healthy loan portfolio. I have some other mini microcap banks as well that shall remain my little secret and not used to figure how my predictions work out. I mention them because if you have a mini micro bank in your community you should go meet then bankers, review the books and consider investing if it trades below the magical tangible book value and has excess capital. Flagstar Bancorp(FBC) is my super long shot undated call option n the economy and real estate markets.

I will also play the thrift conversion game heavily this year. With the elimination of the Office of Thrift Services under the new financial regulation many of the benefits of being a private or mutual thrift are going away. There are a ton of mutual savings banks that will now convert to publicly traded banks. A lot of these deals will be priced below the pro forma book value that is created by adding all that lovely IPO cash to the balance sheet without a corresponding increase in the shares outstanding. Right now I have Fox Chase Bancorp (FXCB) and Capital Federal Financial(CFFN). There will be more. Deals are happening every day right now and again I would keep an eye out for local deals that you can take advantage of in the next few months.

I also think that 2011 will be the year of the activist investor. These folks took a beating since 2007 but this should be their year. There is a ton of cash on corporate balance sheets but lots of underperformance in the current economic environment. We will see activist drive takeovers, restructures, and special dividends this year in my opinion. Recent filings of interest include strong activist positions in Surmodics(SRDX), SeaChange International (SEAC), and Energy Solutions. Tracking activist portfolios and 13D filings should be a very profitable activity in 2011.

I have been looking at some interesting new stuff with options as well I am not going to give most of it away just yet but I ll give you one stimulated by a recent list discussion. H and R Black is highly likely to go into a private equity portfolio next year. Management has made every mistake you can make and the loss of RALs is a big problem for the company. However the brand has real value. I do not want town the stock just yet but I like the idea of selling the January 2012 at $.70 to $.75. If you cash secure the put it's a 10% or so return if the stock stays above the strike. If it falls below I' ll be happy to own the stock with a 6 handle net. Back in 2008 everyone anticipated a huge default wave to hit the high yield market. Thanks to federal stimulus money pumping programs it did not happen. However in the spirit of sell the dog food the dog will eat a given moment the hedge fund world raised an enormous amount od distressed debt money. Thanks to this high yield spreads are far too low. CCC paper in particular is priced at absurd levels. These things trade like money good paper and much of it is not. Extend and pretend has helped but if the economy stays weak and interest rates rise rolling over the tsunami f paper due over the next few years becomes nigh onto impossible. I am going take small position in puts on the various high yield ETFs. If I am right they will explode when that market implodes. Continuing to talk my book I hope this happens. Among my nightly prayers is "Please God just one more two year period of asset rich companies with current payments having bonds trade below recovery value and I promise not to piss the money away this time. Amen.

PS. If you add in risk arbitrage spreads of 30% annualized returns along with this I would not object. Love, Tim.

I can't tell you what the markets will do. I do know that I want to own some safe and cheap stocks, some well capitalized small banks trading below book and participate in activist situation. I will be under invested in equities going into the year hoping my watch list becomes my buy list in market stumble. I will have put positions on long T-Bonds and high yield hoping for a large asymmetrical payoff.

Other than that I am clueless.

Kim Zussman comments: 

Does anyone else think this year is harder than usual to forecast? Is it better now to forecast based on market fundamentals or mass psychology? We are at a two year high in stocks, after a huge rally off the '09 bottom that followed through this year. One can make compelling arguments for next year to decline (best case scenarios already discounted, prior big declines followed by others, volatility low, house prices still too high, FED out of tools, gov debt/gdp, Roubini says so, benefits to wall st not main st, persistent high unemployment, Year-to-year there is no significant relationship, but there is a weak down tendency after two consecutive up years. ). And compelling arguments for up as well (crash-fears cooling, short MA's > long MA's, retail investors and much cash still on sidelines, tax-cut extended, employee social security lowered, earnings increasing, GDP increasing, Tepper and Goldman say so, FED herding into risk assets, benefits to wall st not main st, employment starting to increase).

Is the level of government market-intervention effective, sustainable, or really that unusual? The FED looks to be avoiding Japan-style deflation at all costs, and has a better tool in the dollar. A bond yields decline would help growth and reduce deflation risk. Increasing yields would be expected with increasing inflation; bad for growth but welcomed by retiring boomers looking for fixed income. Will Obamacare be challenged or defanged by states or in the supreme court? Will 2011 be the year of the muni-bubble pop?

A ball of confusion!

4 picks in equal proportion:

long XLV (health care etf; underperformed last year)

long CMF (Cali muni bond fund; fears over-wrought, investors still need tax-free yield)

short GLD (looks like a bubble and who needs gold anyway)

short IEF (7-10Y treasuries; near multi-year high/QE2 is weaker than vigilantism)

Alan Millhone writes:

 Hello everyone,

I note discussion over the rules etc. Then you have a fellow like myself who has never bought or sold through the Market a single share.

For myself I will stick with what I know a little something. No, not Checkers —

Rental property. I have some empty units and beginning to rent one or two of late to increase my bottom line.

I will not venture into areas I know little or nothing and will stay the course in 2011 with what I am comfortable.

Happy New Year and good health,



Jay Pasch predicts: 

2010 will close below SP futures 1255.

Buy-and-holders will be sorely disappointed as 2011 presents itself as a whip-saw year.

99% of the bullish prognosticators will eat crow except for the few lonely that called for a tempered intra-year high of ~ SPX 1300.

SPX will test 1130 by April 15 with a new recovery high as high as 1300 by the end of July.

SPX 1300 will fail with new 2011 low of 1050 before ending the year right about where it started.

The Midwest will continue to supply the country with good-natured humble stock, relatively speaking.

Chris Tucker enters: 

Buy and Hold


Wildcard:  Buy and Hold AVAV

Gibbons Burke comments: 

Mr. Ed Seykota once outlined for me the four essential rules of trading:

1) The trend is your friend (till it bends when it ends.)

2) Ride your winners.

3) Cut your losses short.

4) Keep the size of your bet small.

Then there are the "special" rules:

5) Follow all the rules.

and for masters of the game:

6) Know when to break rule #5

A prosperous and joy-filled New Year to everyone.



John Floyd writes:

In no particular order with target prices to be reached at some point in 2011:

1) Short the Australian Dollar:current 1.0220, target price .8000

2) Short the Euro: current 1.3375, target price 1.00

3) Short European Bank Stocks, can use BEBANKS index: current 107.40, target 70

A Mr. Krisrock predicts: 

 1…housing will continue to lag…no matter what can be done…and with it unemployment will remain

2…bonds will outperform as republicans will make cutting spending the first attack they make…QE 2 will be replaced by QE3

3…with every economist in the world bullish, stocks will underperform…

4…commodities are peaking ….

Laurel Kenner predicts: 

After having made monkeys of those luminaries who shorted Treasuries last year, the market in 2011 has had its laugh and will finally carry out the long-anticipated plunge in bond prices.

Short the 30-year bond futures and cover at 80.

Pete Earle writes:

All picks are for 'all year' (open first trading day/close last trading day).

1. Long EUR/USD
2. Short gold (GLD)

MMR (McMoran Exploration Corp)
HDIX (Home Diagnostics Inc)
TUES (Tuesday Morning Corp)

PBP (Powershares S&P500 Buy-Write ETF)
NIB (iPath DJ-UBS Cocoa ETF)
KG (King Pharmaceuticals)

Happy New Year to all,

Pete Earle

Paolo Pezzutti enters: 

If I may humbly add my 2 cents:

- bearish on S&P: 900 in dec
- crisis in Europe will bring EURUSD down to 1.15
- gold will remain a safe have haven: up to 1500
- big winner: natural gas to 8

J.T Holley contributes: 


The Market Mistress so eloquently must come first and foremost. Just as daily historical stats point to betting on the "unchanged" so is my S&P 500 trade for calendar year 2011. Straddle the Mistress Day 1. My choice for own reasons with whatever leverage is suitable for pain thresholds is a quasi straddle. 100% Long and 50% Short in whatever instrument you choose. If instrument allows more leverage, first take away 50% of the 50% Short at suitable time and add to the depreciated/hopefully still less than 100% Long. Feel free to add to the Long at this discretionary point if it suits you. At the next occasion that is discretionary take away remaining Short side of Quasi Straddle, buckle up, and go Long whatever % Long that your instrument or brokerage allows till the end of 2011. Take note and use the historical annual standard deviation of the S&P 500 as a rudder or North Star, and throw in the quarterly standard deviation for testing. I think the ambiguity of the current situation will make the next 200-300 trading days of data collection highly important, more so than prior, but will probably yield results that produce just the same results whatever the Power Magnification of the Microscope.

Long the U.S. Dollar. Don't bother with the rest of the world and concern yourself with which of the few other Socialist-minded Country currencies to short. Just Long the U.S. Dollar on Day 1 of 2011. Keep it simple and specialize in only the Long of the U.S. Dollar. Cataclysmic Economic Nuclear Winter ain't gonna happen. When the Pastor preaches only on the Armageddon and passes the plate while at the pulpit there is only one thing that happens eventually - the Parish dwindles and the plate stops getting filled. The Dollar will bend as has, but won't break or at least I ain't bettin' on such.

Ala Mr. Melvin, Short any investment vehicle you like that contains the words or numerals "perpetual maturity", "zero coupon" and "20-30yr maturity" in their respective regulated descriptions, that were issued in times of yore. Unfortunately it doesn't work like a light switch with the timing, remember it's more like air going into a balloon or a slow motion see-saw. We always want profits initially and now and it just doesn't work that way it seems in speculation. Also, a side hedge is to start initially looking at any financial institution that begins, dabbles, originates and gains high margin fees from 50-100 year home loans or Zero-Coupon Home Loans if such start to make their way Stateside. The Gummit is done with this infusion and cheer leading. They are in protection mode, their profit was made. Now the savy financial engineers that are left or upcoming will continue to find ways to get the masses to think they "Own" homes while actually renting them. Think Car Industry '90-'06 with. Japan did it with their Notes and I'm sure some like-minded MBA's are baiting/pushing the envelopes now in board rooms across the U.S. with their profitability and ROI models, probably have ditched the Projector and have all around the cherry table with IPads watching their presentation. This will ultimately I feel humbly be the end of the Mortgage Interest Deduction as it will be dwindled down to a moot point and won't any longer be the leading tax deduction that it was created to so-called help.


Short Gold, Short it, Short it more. Take all of your emotions and historical supply and demand factors out of the equation, just look at the historical standard deviation and how far right it is and think of Buzz Lightyear in Toy Story and when he thought he was actually flying and the look on his face at apex realization. That plus continue doing a study on Google Searches and the number of hits on "stolen gold", "stolen jewelery", and Google Google side Ads for "We buy Gold". I don't own gold jewelery, and have surrendered the only gold piece that I ever wore, but if I was still wearing it I'd be mighty weary of those that would be willing to chop a finger off to obtain. That ain't my fear, that's more their greed.

Long lithium related or raw if such. Technology demands such going forward.


Long Natural Gas. Trading Day 1 till last trading day of the year. The historic "cheap" price in the minds of wannabe's will cause it to be leveraged long and oft with increasing volume regardless of the supply. Demand will follow, Pickens sowed the seeds and paid the price workin' the mule while plowin'. De-regulation on the supply side of commercial business statements is still in its infancy and will continue, politics will not beat out free markets going into the future.

Long Crude and look to see the round 150 broken in years to come while China invents, perfects, and sees the utility in the Nuclear fueled tanker.

Long LED, solar, and wind generation related with tiny % positions. Green makes since, its here to stay and become high margined profitable businesses.


Short Sugar. Sorry Mr. Bow Tie. Monsanto has you Beet! That being stated, the substitute has arrived and genetically altered "Roundup Ready" is here to stay no matter what the Legislative Luddite Agrarians try, deny, or attempt. With that said, Long MON. It is way more than a seed company. It is more a pharmaceutical engineer and will bring down the obesity ridden words Corn Syrup eventually as well. Russia and Ireland will make sure of this with their attitudes of profit legally or illegally.

Prepare to long in late 2011 the commercialized marijuana and its manufacturing, distribution companies that need to expand profitability from its declining tobacco. Altria can't wait, neither can Monsanto. It isn't a moral issue any longer, it's a financial profit one. We get the joke, or choke? If the Gummit doesn't see what substitutes that K2 are doing and the legal hassles of such and what is going on in Lisbon then they need to have an economic lesson or two. It will be a compromise between the Commercial Adjective Definition Agrarians and Gummit for tax purposes with the Green theme continuing and lobbying.

Short Coffee, but just the 1st Qtr of 2011. Sorry Seattle. I will also state that there will exist a higher profit margin substitute for the gas combustible engine than a substitute for caffeine laden coffee.

Sex and Speculation:

Look to see www.fyretv.com go public in 2011 with whatever investment bank that does such trying their best to be anonymous. Are their any investment banks around? This Boxxx will make Red Box blush and Apple TV's box envious. IPTV and all related should be a category that should be Longed in 2011 it is here to stay and is in it's infancy. Way too many puns could be developed from this statement. Yes, I know fellas the fyre boxxx is 6"'s X 7"'s.


This is one category to always go Long. I have vastly improved my guitar playin' in '10 and will do so in '11. AAPL still has the edge and few rivals are even gaining market share and its still a buy on dips, sell on highs empirically counted. They finally realized that .99 cents wasn't cutting it and .69 cents was more appropriate for those that have bought Led Zeppelin IV songs on LP, 8-track, cassette, and CD over the course of their lives. Also, I believe technology has a better shot at profitably bringing music back into public schools than the Federal or State Gummits ever will.


Long - Your mind. Double down on this Day 1 of 2011. It's the most capable, profitable thing you have going for you. I just learned this after the last 36 months.

Long - Counting, you need it now more than ever. It's as important as capitalism.

Long - Being humble, it's intangible but if quantified has a STD of 4 if not higher.

Long - Common Sense.

Long - Our Children. The media is starting to question if their education is priceless, when it is, but not in their context or jam.

Short - Politics. It isn't a spectator sport and it has been made to be such.

Short - Fear, it is way way been played out. Test anything out there if you like. I have. It is prevalent still and disbelief is rampant.

Long - Greed, but don't be greedy just profitable. Wall Street: Money Never Sleeps was the pilot fish.

I had to end on a Long note.

Happy New Year's Specs. Thanks to all for support over the last four years. I finally realized that it ain't about being right or wrong, just profitable in all endeavors. Too many losses led to this, pain felt after lookin' within, and countin' ones character results with pen/paper.

Russ Sears writes:

 For my entry to the contest, I will stick with the stocks ETF, and the index markets and avoid individual stocks, and the bonds and interest rates. This entry was thrown together rather quickly, not at all an acceptable level if it was real money. This entry is meant to show my personal biases and familiarity, rather than my investment regiment. I am largely talking my personal book.

Therefore, in the spirit of the contest , as well as the rules I will expose my line of thinking but only put numbers on actual entry predictions. Finally, if my caveats are not warning enough, I will comment on how a prediction or contest entry differs from any real investment. I would make or have made.

The USA number one new product export will continue to be the exportation of inflation. The printing of dollars will continue to have unintended consequences than its intended effect on the national economy but have an effect on the global economy.. Such monetary policy will hit areas with the most potential for growth: the emerging markets of China and India. In these economies, that spends over half their income on food, food will continue to rise. This appears to be a position opposite the Chairs starting point prediction of reversal of last year's trends.

Likewise, the demand for precious metals such as gold and silver will not wane as these are the poor man's hedge against food cost. It may be overkill for the advanced economies to horde the necessities and load up on precious metals Yet, unlike the 70's the US/ European economy no longer controls gold and silver a paradigm shift in thinking that perhaps the simple statistician that uses weighted averages and the geocentric economist have missed. So I believe those entries shorting gold or silver will be largely disappointed. However in a nod to the chair's wisdom, I will not pick metals directly as an entry. Last year's surprise is seldom this year's media darling. However, the trend can continue and gold could have a good year. The exception to the reversal rule seems to be with bubbles which gain a momentum of their own, apart from the fundamentals. The media has a natural sympathy in suggesting a return to the drama of he 70's, the stagflation dilemma, ,and propelling an indicator of doom. With the media's and the Fed's befuddled backing perhaps the "exception" is to be expected. But I certainly don't see metal's impending collapse nor its continued performance.

The stability or even elevated food prices will have some big effects on the heartland.

1. For my trend is your friend pick: Rather than buy directly into a agriculture commodity based index like DBA, I am suggesting you buy an equity agriculture based ETF like CRBA year end price at 77.50. I am suggesting that this ETF do not need to have commodities produce a stellar year, but simply need more confirmation that commodity price have established a higher long term floor. Individually I own several of these stocks and my wife family are farmers and landowners (for full disclosure purposes not to suggest I know anything about the agriculture business) Price of farmland is raising, due to low rates, GSE available credit, high grain prices due to high demand from China/India, ethanol substitution of oil A more direct investment in agriculture stability would be farmland. Farmers are buying tractors, best seeds and fertilizers of course, but will this accelerate. Being wrong on my core theme of stable to rising food/commodity price will ruin this trade. Therefore any real trade would do due diligence on individual stocks, and put a trailing floor. And be sensitive to higher volatility in commodities as well as a appropriate entry and exit level.

2. For the long term negative alpha, short term strength trade: I am going with airlines and FAA at 49.42 at year end. There seems to be finally some ability to pass cost through to the consumer, will it hold?

3. For the comeback of the year trade XHB: (the homebuilders ETF), bounces back with 25% return. While the overbuilding and vacancy rates in many high population density areas will continue to drag the home makes down, the new demand from the heartland for high end houses will rise that is this is I am suggesting that the homebuilders index is a good play for housing regionally decoupling from the national index. And much of what was said about the trading of agriculture ETF, also apply to this ETF. However, while I consider this a "surprise", the surprise is that this ETF does not have a negative alpha or slightly positive. This is in-line with my S&P 500 prediction below. Therefore unless you want volatility, simply buying the S&P Vanguard fund would probably be wiser. Or simply hold these inline to the index.

4. For the S&P Index itself I would go with the Vanguard 500 Fund as my vehicle VFINXF, and predict it will end 2011 at $145.03, this is 25% + the dividend. This is largely due to how I believe the economy will react this year. 

5. For my wild card regional banks EFT, greater than IAT > 37.50 by end 2011…

Yanki Onen writes:

 I would like to thank all for sharing their insights and wisdom. As we all know and reminded time to time, how unforgiven could the market Mistress be. We also know how nurturing and giving it could be. Time to time i had my share of falls and rises. Everytime I fall, I pick your book turn couple of pages to get my fix then scroll through articles in DSpecs seeking wisdom and a flash of light. It never fails, before you know, back to the races. I have all of you to thank for that.

Now the ideas;

-This year's lagger next year's winner CSCO

Go long Jan 2012 20 Puts @ 2.63 Go long CSCO @ 19.55 Being long the put gives you the leverage and protection for a whole year, to give the stock time to make a move.

You could own 100,000 shares for $263K with portfolio margin ! Sooner the stock moves the more you make (time decay)

-Sell contango Buy backwardation

You could never go wrong if you accept the truth, Index funds always roll and specs dont take physical delivery. This cant be more true in Cotton.

Right before Index roll dates (it is widely published) sell front month buy back month especially when it is giving you almost -30 to do so Sell March CT Buy July CT pyramid this trade untill the roll date (sometime at the end of Jan or begining of Feb) when they are almost done rolling(watch the shift in open interest) close out and Buy May CT sell July CT wait patiently for it to play it out again untill the next roll.

- Leveraged ETFs suckers play!

Two ways to play this one out if you could borrow and sell short, short both FAZ and FAS equal $ amounts since the trade is neutral, execute this trade almost free of margin. One thing is for sure to stay even long after we are gone is volatility and triple leveraged products melt under volatility!

If you cant borrow the shares execute the trade using Jan 12 options to open synthetic short positions. This trade works with time and patience!

Vic, thanks again for providing a platform to listen and to be heard.


Yanki Onen

Phil McDonnell writes: 

When investing one should consider a diversified portfolio. But in a contest the best strategy is just to go for it. After all you have to be number one.

With that thought in mind I am going to bet it all on Silver using derivatives on the ETF SLV.

SLV closed at 30.18 on Friday.

Buy Jan 2013 40 call for 3.45.
Sell Jan 2012 40 call at 1.80.
Sell Jul 25 put at 1.15.

Net debit is .50.

Exit strategy: close out entire position if SLV ETF reaches a price of 40 or better. If 40 is not reached then exit on 2/31/2011 at the close.

George Parkanyi entered:

For what it's worth, the Great White North weighs in ….
3 Markets equally weighted - 3 stages each (if rules allow) - all trades front months
3 JAN 2011
BUY NAT GAS at open

BUY SILVER at open

BUY CORN at open
28 FEB 2011 (Reverse Positions)
SELL and then SHORT NAT GAS at open

SELL and then SHORT SILVER at open

SELL and then SHORT CORN at open
1 AUG 2011 (Reverse Positions)
COVER and then BUY NAT GAS at open

COVER and then BUY SILVER at open

COVER and then BUY CORN at open
Hold all positions to the end of the year

3 JAN BUY PLATINUM and hold to end of year.


. Markets to unexpectedly carry through in New Year despite correction fears.

. Spain/Ireland debt roll issues - Europe/Euro in general- will be in the news in Q1/Q2

- markets will correct sharply in late Q1 through Q2 (interest rates will be rising)

. Markets will kick in again in Q3 & Q4 with strong finish on more/earlier QE in both Europe and US - hard assets will remain in favour; corn & platinum shortages; cooling trend & economic recovery to favour nat gas

. Also assuming seasonals will perform more or less according to stats

If rules do not allow directional changes; then go long NAT GAS, SILVER, and CORN on 1 AUG 2011 (cash until then); wild card trade the same.

Gratuitous/pointless prediction: At least two European countries will drop out of Euro in 2011 (at least announce it) and go back to their own currency. 

Marlowe Cassetti enters:

FXE - Currency Shares Euro Trust

XLE - Energy Select

BAL - iPath Dow Jones-AIG Cotton Total Return Sub-Index

GDXJ - Market Vectors Junior Gold Miners

AMJ - JPMorgan Alerian MLP Index ETN

Wild Card:


VNM - Market Vectors Vietnam ETF

Kim Zussman entered: 

long XLV (health care etf; underperformed last year)
long CMF (Cali muni bond fund; fears over-wrought, investors still
need tax-free yield)
short GLD (looks like a bubble and who needs gold anyway)
short IEF (7-10Y treasuries; near multi-year high/QE2 is weaker than



pez dispenser dispensing viagraHere are some poignant things to reflect upon about yesterday, May 21, I think:

0. The low of the day was below the low on the Flash Crash day.

1. A Millstein occurred, was it bullish or bearish and as of when.

2. The set up at the beginning of the day was highly similar the previous day. How best to define similarly without a neural net.

3. The low was not quite equal to the low of the year on Feb 7.

4. The interactions with bonds and oil and copper and the dollar was predictive.

5. It followed a series of disastrous Thursdays, with double digit S&P declines.

6. The sponsor said he wouldn't buy stocks.

7. A promoter said he sees S&P below 950 in fib retracement. Another sage from a broker's house saw stocks rallying. Presumably their disseminated views caused spikes at the time of announcement. Was there anything predictive in comparing the reaction.

8. The S&P pit opening followed the biggest decline in a year.

9. The fixed income prices opened at an all time high, and closed at an all time high but managed to drop a percentage regardless.

10. The flash rise occurred with 20 minutes to go from a 1.5 percentage drop in afternoon after a vastly different experience in prior days.

11. The courage to not be dissuaded out of your position from the other broker, or the inner survival man, or your assistant who always wants to take profits as of Friday 3:40pm would have been redoubtable.

12. Mr. Vix and Mr. Vic opened at one year highs and followed a similar trajectory to the fixed income.

13. A 10 percent correction occurred; is it bullish or bearish or random. Same for breaks of the long moving averages.

14. To what extent did May options expiration have a predictive effect.

15. Were the movements in the Euro and Asian markets overnight a pilot fish?

16. Was revulsion from the increases in "sharings" and "service" scheduled for the beginning of 2011 a factor?

17.  What political factors relating to the approval of bailouts by houses in Europe and reforms in the US played a part?

18. How do predicted earnings increases factor into the Fed Model and should the Shillerian 10 year p/e calculation be obfuscated with the man.

19. It was the biggest decline in a week in the year.

20. There had been a run of multiple intervals of declines in a row.

21. How did all this affect and react to the moves in individual stocks?

Inquiring robots within and without the mind wish to know the answer to such questions on a scientific and or useful basis for future input. What approaches and other more poignant queries should be proffered or gainsaid?


22. The sage likes to compare the stimulus bill to taking 1/2 a tablet of Viagra and then diluting it with candy. We need more he said.

What are the natural reflections engendered by such an utterance?

I'll give a prize at the annual spec party for the best such reflection.

Pitt T. Maner comments:

Bob Dole petting a dog on the headThe potential stimulative effects of lower oil prices come to mind. There are more scholarly sources to be found, but here is a snippet of thought.

"Every $1 per barrel drop in oil's price increases U.S. GDP by $100 billion per year and every 1 cent decrease in gasoline's price increases U.S. consumer disposable income by about $600 million per year."

Lower oil prices like Viagra would seem to be useful for the longer term mechanism of action effects but its the lowering of obesity (and sugar consumption) and belt-tightening of runaway spending that may be more important in the long run.

An image of Bob Dole petting his dog on the head comes to mind. 

Martin Lindkvist writes:

The sage seems to know a lot about the right dose of……candy. Some questions remain to be answered though. When he said "we need more", was he referring to the stimulus bill or the stimulus pill? And who are we? Should the market mistress be jealous? 

Sushil Kedia adds:

The mythical character James Taggart in Atlas Shrugged would have said so had Viagra been available in that age. Might I extend the tautomerization such that the James Taggarts hidden all over "in the system" are as sagacious as the sage or perhaps the other way round that the sagacity of the sage is a Taggartian mumble.

He never believed that anyone should be paying taxes. At least that's what he positioned to imply by never giving out dividends. He could have little regard for those who indeed tax their finances and their bodies to experience the pleasures of achievement and the achievement of pleasure, respectively.

Give me more! This ain't enough!!

Jack Tierney comments:

"Our first stimulus bill, it seemed to me, was sort of like taking half a tablet of Viagra and having also a bunch of candy mixed in as everybody was putting it into their own constituencies. It doesn't have quite the wallop." - Warren Buffett

A spoonful of sugar helps the medicine go down
In this instance, Mr. Buffett is borrowing from the equally iconic Mr. Disney and his tune "A Spoonful of Sugar Helps the Medicine Go Down." However, since so many different and divergent candies were necessary to satisfy the various "constituencies," few were pleased with the aftertaste. Mr. Buffett has suggested a second dose and "taking it straight" since July of '09. Unfortunately, inherent in his initial support and subsequent carping is the unavoidable insistence that there exists a stimulus package, which properly configured, will work. This is unfortunate because it foretells that something, something equally stupid, will be done.

The suggestion (whether sugar coated or not) is flawed on two counts (at least). First, the same "smartest guys in the room" who created the disease and subsequent medicine are once again heading up the project. Secondly, the historical record contains numerous examples of "stimulus programs" which have two things in common: they have been designed and promoted by the very brightest and they have all failed.

Further, if we are to adhere to our commonly held characterization of the market as The Mistress, then Mr. Buffett's Viagra suggestion is obviously misdirected. Although the recommended medication might do wonders for the stimulators, the only important response is hers (and I'm sure that I'm not alone in observing that on occasions, rare occasions, our enthusiasm just isn't enough).

At some times (perhaps at all times) we must let the Mistress work it out on her own. If TV ads and infomercials are to be believed, modern self-applicable developments have added to the numerous nostrums, aids, and approaches already available. Checking the historical record once again, we find that her response times can be capricious. But she alone determines the timing; the addition or withholding of a spoonful of sugar won't speed things along.

Steve Ellison comments:

"The set up at the beginning of the day was highly similar the previous day. How best to define similarly without a neural net."

A simple calculation of open relative to the previous close would have shown the similarity of Thursday and Friday. For example: "a 10 percent correction occured, is it bullish or bearish.or random. same for breaks of the long moving averages."Dr. Zussman showed last July that several moving averages from 40 to 70 weeks had good predictive value, so I would interpret the break of the 40-week average as bearish.

"the sponsor said he wouldnt buy stocks."

So what? He's a bond guy.

"What approaches and other more poignant queries should be proffered or gainsaid?

At the beginning of May, I posted the performances of 13 asset classes in a horse racing format. I suspect that some important "forms" in the markets last about two months. That is why I showed two-month performances and chose to post them at the beginning of a new two-month period. The S&P 500 had the second best return of the 13 asset classes in March and April. Furthermore, the form in March and April was a slow and steady upward trend. The public would be looking for more of the same in May and June, so something very different was guaranteed to happen.



 There is something about the celebrity gate crashing strip tease of the Salahis that shows a deep wrongness in the American psyche and is the root cause of the revulsion overnight today.

Martin Lindkvist adds:

I would add that when the camera is out of the way the hand would do just like the market: when you think it will go up, instead it goes down. As Victor said, that's the way men do it, and the market too. It is good to know that markets and men are the same all around the world.

An Attorney adds:

To present the question more succinctly, more in keeping with my Harvard Law training:

Did Biden's feeling up Michaele constitute an ex post facto invitation to the dinner?



 "Then why doesn't everybody go to the markets and beat the game to a frazzle playing Seattle Phil's method if the brain work part is so easy? Yes, the brainwork part is easy. It's the patience and guts part that sticks 'em!

There are no mechanical rules to go by. You simply have to have Phil's patience to wait for high Sharpe situations and Phil's guts to play them."

from: Secrets of Professional Turf Betting, slightly altered in honour of "Seattle Phil" McDonnell, whom I had the great pleasure to spend some time with, discussing markets and methods when he was in Stockholm a few weeks ago. I also attended his speech at the Scandinavian Technical Analyst Federation, where he discussed the findings of his 2008 book Optimal Portfolio Modeling. A great speech, and I would say that when it comes to Phil, the brainwork is not so easy, as he has such a deep understanding of the markets workings as well an ability to mathematically and statistically model the markets for practical trading use, that is probably equaled by very few. Incidentally, he is also trained by the very best in that arena!

This site is such a great meeting place, and I smile every time that I see someone traveling to a faraway place on the globe, mentioning it on the site beforehand and almost always there is a spec meet-up to grab a bite and discuss markets with an old friend from the site.

Truly, we are very fortunate to be part of this.



From the "dog chasing its tail-department,"  it is interesting to note that the Riksbank changed the measurement of inflation that they base their policy on a while ago. The measurement they are focusing on now includes cost of credit in a way that includes their own rate-lowering effect. So the more they lower the rate, the lower the inflation and the more they need to lower the rate if they are to keep with their policies. They used to follow a measure which took into account this effect, but not anymore. This is also one of the reasons that they kept raising rates until September last year.



 Here's an investment theory. Rather than buy when the expectation is greatest, buy when the risk is the least. The question is whether or not they are the same times. I define risk as the lowest probability of account drawdown from entry, rather than common definitions of volatility. A corollary of this is that buying at what appears to the public as the greatest risk is actually the time of least risk. A recent discussion here looked at expectation of range vs expectation of change. The theory of the least risk would be to buy at the expected maximum extension of range, at the time of greatest expectation. The other issue is the holding period and expectation of gain. Some argue that the maximum expectation period over time will reap the highest returns. The problem is that the deviation goes up as fast if not faster, increasing risk. The second problem is the issue of changing cycles and prior history may not match future performance. Dr. Phil has pointed out that profit stops reduce deviation but not necessarily rate of return. Yet account deviation is the bottom line. He has proposed formulas to optimize risk/loss vs return. But realtime trading demands some sort of realtime system. This is hard to implement. The underlying idea is that management of risk is more important than maximizing return. This has been the basic systemic flaw in the recent boom and bust. The idea is distinct from the idea of leverage as risk. The answer will differ from individuals to institutions and funds with differing goals.

Martin Lindkvist comments:

Try creeping commitment, that is, start with a small line and increase if market goes in one's favour. But this has a built in assumption of some kind of trending behavior of prices, which might or might not be true depending on other circumstances.

A twist to the creeping commitment of a single position is to start out a period (year, or other of your choice) and increase risk taking after profits have been made, and decrease if losses are incurred to the capital at beginning of time period; that is play harder with "market money". I believe that both this method and the first one might have some psychological benefits if nothing else.

Risk in the usual deviation sense has sometimes been disguised, through e.g asymmetrical strategies ("picking up nickels in front of a bulldozer") where the risk might seem far away only come back hard when least expected. Moral - one should always be suspect when one thinks one have found a good way of managing risk - "what am I missing". Liquidity issues comes to mind too.

Using leverage as the risk manager, still seems to me the most clean way to manage risk. Cutting off risk with stops or options also is a way but run of the mill costs for these should be higher over time. That doesn't matter though if you meet black swan on day one….

Phil McDonnell writes:

A knotty part of this question is to define risk. To academics it is probably something like standard deviation of returns. To traders it may be only the losing trades, in other words only the downside deviations need to be considered. Another metric might be draw down or maximum loss.

The risk measure one chooses makes a big difference. For example suppose we look at the standard deviation of the market after it has been rising for a while. Assume our criteria of rising is that the market is above its 200 day moving average. We would find that the risk measured by the standard deviation is less for all such periods than it would be for those periods which are below the 200d moving average.

When markets approach major bottoms they are often quite volatile. Currently we often have daily moves of 3 to 5%. If one were to study the subsequent behavior the probability of large down moves the next day are quite high as are the chances of large up moves at such times. This is true even though one can often argue that after such large declines the market is close to good value levels and has not much more to fall.

Note that one can get two different answers to the question depending on time frame. At a low area such as now, the long term risk outlook might be that it cannot go much lower. But because of volatility the short term outlook is for continued riskiness.

Dr. McDonnell is the author of Optimal Portfolio Modeling, Wiley, 2008

Legacy Daily replies:

As for this statement, "Rather than buy when the expectation is greatest, buy when the risk is the least," the risk of not being in the market is the least (assuming cash is constant). Perhaps you mean "buy the highest expected return for the lowest risk." Theoretically, "maximize return but minimize risk" may be suitable for a linear programming model where one would need to define the various constraints and let the machine solve for the best alternative to maximize return given the constraints. The challenge: the right definition of the constraints. Also, the optimal solution may change tick by tick.

And as for this statement, "a corollary of this is that buying at what appears to the public as the greatest risk is actually the time of least risk," I think many market participants buy and hold. Therefore, the main reason a market appears a great risk to them is because their money disappears. The more money disappears, the greater the fear (hence perception of risk). It also seems that these "emotions" are only visible during intermediate-term/long-term market turning points which may not be suitable for a day trader.Furthermore, "time in the market" and "percent invested" are also ways to increase/decrease risk when account balance rather than security price volatility is the key criteria. Account balance is an extremely useful risk manager. AUM does not have the same effect.I cannot remember where but I came across the concept of a very successful trader at one point or another getting completely wiped out and some being so good that they could build a fortune multiple times and get wiped out more than once in a lifetime. If true, is that possibly a manifestation of "buy when the expectation is greatest" with not enough focus on "when the risk is the least?"



LoebHere are some interesting quotes from The Battle of Investment Survival, by Gerald M Loeb, Simon and Schuster, 1957 (14th printing).

"There are some rules that hold, and my first is to buy only something that is quoted daily and can be bought and sold in an action market daily. The greater the volume of trading and the broader the market in a particular security, the closer to a fair price at a given moment that security is likely to be."

"In my opinion, the primary factor in securing market profits lies in sensing the general trend. Are we in a deflation or inflation period? If the former, I would hardly bother to analyze most equities."

"In short, in my opinion everything of an analytical nature covering specific securities should be persistently linked to past market appraisals and set up for use solely to determine future market possibilities."

"Any program which involves complete investment of all capital at all times is certain to fail unless the amount of it is extremely small."

"All this suggests the question - are we learning to trade for the quick turn or to invest for the long pull? We are investing for appreciation, and the length of time one holds a position has noting to do with it. I lean towards rather short turns for many reasons. To begin with, experience is gained much more rapidly that way. Short-term investing once mastered has very much more the elements of dependable business than the windfalls or calamities of the long pull."

"Obviously, our ideas will sound wrong to the most people. Any investment policy followed by all naturally defeats itself. Thus the first step for the individual trying to secure or preserve capital is to detach himself from the crowd."



Martin LBaron Rothschild allegedly said that one should buy "when there is blood in the streets." With the current situation's being what it is, clearly we have reached that point, and the only questions that remain are: How much further — and what will happen then? What strikes me is that people that usually are positive have turned very negative, and no wonder with all the alarming news that keeps hitting the market and the unrelenting selling. But there is a deeper angst that keeps creeping up: "It is different this time", meaning that the market will not stage a rebound, or that any rebound will be short lived. With the exception of the list, it seems that sentiment is very dark. You hear things like "all markets have fallen so there is no where money will flow from", or "we are heading into a deep recession that will further depress markets", or "sell now, we will fall 20% more in a matter of days". While any of these statements may be true, when they come after a 40% fall they seem to me bear the earmark of capitulation underway, and a strong rise to follow.



V NThere are universal principles that apply to success in all endeavors. I took 10 for cricket by Micoach adapted from The Path to Athletic Power by Boyd Eply who apparently is a famous power coach.

1. Ground based activities. You play most games on the ground so your exercises should be on the ground. Yes, and the way to test a system is to apply it in the real world, not on paper. You must go back at least x years and see what it would have been like at that time.

2. Multiple joint activities. You use all the joints, in coordination. Squats do also, but a leg extension just requires the legs to move. You need to see how your tests and market activities work in the real world when you have multiple positions not just one at a time.

3. Three dimensional movements. Weights train you on three planes but the wire machines train on only two, "with the weights and pulleys taking the strain." In the world of markets, you are embedded in life. The family comes in. Food must be eaten. And sometimes you must leave the screen and take breaks. The announcements don't come when you expect them. Take this into account.

4. Train explosively. Speed comes from how quickly your muscles work. Work with sprints "and Pliometrics" not slow strength or sprints. Do vary your market positions according to the odds and expectations.

5. Progressive overload. Keep increasing the reps.

6. Periodisation. Take account of different time periods and days.

7. Split routine. Do weights on some days and flex on others giving your body a chance to recover. How about commodities at the end of the week and stocks in the beginning and grains over the weekend.

8. Hard easy system. Take it hard some times and easy other times or you'll burn out. Try skipping trading some days and spending time at the gardens.

9. Train specifically. Make it as close to real things as possible. No long runs unless you're a distance runner. Please don't paper trade only and do take account of margins and slippage and your broker front running you.

10. Interval training. Long periods of rest and then an explosion "just like you get when batting, bowling or fielding." The whole game hinges on what you do during seconds. Be prepared and never let down your guard. 

I'd be interested in how readers think the ideas of cricket and power training of Eply and Hinchliffe are related to or different from universal principles applicable to markets.

Martin Lindkvist replies:

Martin LTo gain power, muscle fibers need to be damaged which then leads to the cells repairing themselves, overcompensating, creating new growth and more power. Likewise, you cannot have profits without allowing for drawdowns.

Using many different exercises allows for the muscles to be trained from many angles creating more strength also in the power movements without overtraining in those few specific movements. Using many different/diversified signals/systems allows for more profit compared to overleveraging just a few main signals.

When you train with heavy weights, do use a spotter that can help you get the most of the exercise as well as making sure that you don't hurt yourself, or use a power rack. In markets when leveraged, consider utilising a risk manager for the same function, catastrophic stop loss, etc.

When you have had a while off, start out easy with lighter weights, or fewer contracts.



V NThe action on the first day of the month of September was highly unusual, and apparently at that time the employment number had leaked so the moves after that first day were much more likely to happen than before. After such bad starts the rest of the week has a standard deviation of 30 and only 50% chance of rise.

The 40 point S&P decline on Thursday was the fourth largest decline on a Thursday ever. By that time, the news was out, and the increase in unemployment was icing on the cake.

All this occured in conjunction with repeated highs in the fixed income prices around the world, and declines in the omniscient market in Israel below the round and Japan near three year lows of 12000 on the Nikkei.

To me, the key event was the raising of the Swedish discount rate during the night Thursday, causing an immediate 1% decline in all European equities. How come they weren't keyed in like the others to the forthcoming announcement?

The most hurtful piece of mass psychology was the naive notion about stocks having to go down because the P/E of 25 was the highest in 15 years, and that was bearish. Earnings are forecast next quarter to be the highest increase ever of 50% and you would think that people are taught to look at the future rather than the past for moves in markets.

There were many good economic numbers and bad economic numbers in the past week relative to expectations. What is it that caused the employment number to be the focus, other than the desire to paint the economy as weak before the election for obvious reasons of agrarianism? More important, why should a decline in employment at this stage be bearish for stock markets?

The one factor that made it seem so much like the end of the world was the the four day move down in S&P from the Thursday 8 28 close of 1298 to the Tuesday 9 04 close of 1236, a decline of 62 points was the second worst start of a week since the beginning of 2002, the only comparable being the four day move on 1 17 2008 before the French bank inside trading activity.

Michael Bonderer adds:

Perhaps equally important, maybe more so: Trichet's decision to increase the haircut on collateral to 12% from 2%.

Martin Lindqvist writes from Sweden:

The Riksbank declined being part of the liquidity pump that the Fed, ECB, SNB, et al, set up last year and continued with also this year. Maybe they are deliberately kept out of the loop now? However I think it has more to do with them having gotten lot of criticism for raising the last few times. Perhaps they just want to show who is in charge.

John De Palma adds:

With respect to the market obsession with the non-farm payrolls report (to the point of motivating a scene in the movie "25th Hour"), the sensitivity of interest rates to a one standard deviation surprise in payrolls is a few times higher than any other economic indicator. The rankings of market sensitivity to the indicators look like they follow a power law distribution, the distribution that characterizes movie/book popularities and other sociological phenomena. It's difficult to create a model of the economy that conforms to the dispersion of sensitivities. It's more plausible to appeal to a view of markets with focal points, attention biases, etc.

Henrik Andersson follows up on the Swedish developments:

It turns out the Swedish calculation of inflation was flawed leading up to the rate hike and the reported July number of 4.4% was in reality 4.1 percent (they thought shoes prices had increased 30% yoy…). Since the Swedish 'Riksbank' most likely was split in their decision it is widely suspected that with correct data we wouldn't have had a hike to 4.75%.



 I found myself lying awake in my bed last night thinking about the Nobel Prize Winner. No! Not like that….but about what he said in Stockholm last week. Expected Utility Optimization. What he said is that the goal of asset allocation should be optimizing the expected utility for the actual investor in question, and that the mean variance model should just be looked upon as a special case. And of course he is right. I mean, by the way he sets it up, he is right by definition. But….I am thinking how it would play out in the real world. In my fantasy, a consultant would sit down with an investor, asking questions to find out his preferences. Of course this is already happening in a general sense but here it would end in a very specific investor utility function). Then the asset allocation would be done based on the utility function.

I am thinking that what will be overlayed on the usual return/risk models, are constraints (e.g cutting off tail risk, smoothing out fluctuations and what have you) and while the model presumably maximises return given a risk level and those added constraints; if we add constraints there must be risk premia transferred to someone else? By definition, since the investor specified his utility function (and given that the formulas and models held up and he got "what he wanted") he is better off than before, but so must someone else be?

I am not sure this new allocation model will start a revolution in the way asset allocation is done. I think however that finding situations where other investors are up against constraints, could help open up possibilities and profits. In the micro realm, many traders prefer to cut off the risk of gaps against them, by not holding overnight. This might open up possibilities for traders well capitalised and with good stomach, to do just that (this must be tested). Other suggestions are welcome.

Adi Schnytzer critiques:

AdiIt never ceases to amaze me that people who know markets and work in them don't realise that we don't know the probability that anything will happen tomorrow unless we are in a fair casino. So the idea that anyone can maximize expected utility is nonesense since you don't know the probabilities. I am currently working on developing a risk index as a follow-up to such an index developed recently by Aumann. He cutely argues that even though we don't often know the probabilities to assign to events, it's important that, in principle at least, we have an index. Well, I've been looking for real life examples of his index (and my follow-up) in stock and derivative markets, and simply cannot find one. As a top bookie once said to me: "If I only knew the winning probabilities of the horses, I wouldn't need to know winners; I'd be making a fortune anyway." Spot on.

Jim Sogi adds:

Martin talked about "…cutting off tail risk".

The thesis that outliers shape the future is intriguing, but also that the risk cannot be eliminated. The idea that one can cut left tail risk is an illusion that in itself creates a greater risk. As Phil says, it also cuts right tail return.

Jeff Watson concurs:

Risk can be quantified, assumed, bought, sold, transferred, created, subordinated, reassigned, split, delayed, diluted,  fragmented, hedged against, and layed off……. Risk can respond to some methods, but it is still risk, and is near impossible to eliminate.

Speaking of planning in general, Stefan Jovanovich adds:

I have quoted this before, but it seems worth repeating, if only to add a mite to Adi's wisdom. Planning in business is all very well, but the trouble is that your plan's assumptions always turn out to be works of fiction. As John Wannamaker said, "I know half the money I spend on advertising is wasted. If someone would tell me which half, I would very much appreciate it."

Vince Fulco concurs:

This quote has always seemed appropriate… 

Moltke's famous statement that "No campaign plan survives first contact with the enemy" is a classic reflection of Clausewitz's insistence on the roles of chance, friction, "fog," and uncertainty in war. The idea that actual war includes "friction" which deranges, to a greater or lesser degree, all prior arrangements, has become common currency in other fields as well (e.g., business strategy, sports). [Wikipedia].

Russ Humbert warns:

One of the hardest things to get people to see is that most people/businesses have a long term utility function but operate as if all risk is short term volatility.  For example, I work for a company that has a niche market and is privately held. The owner wants to pass this business on to his great-grand kids so each will be as well off as he is now.  He has only teen kids now. This niche has very little volatility of earnings and good ROEs. But this just encourages piling on the same long term risk, to minimize the short term risk.  That is: grow the core business, not diversify. We already have the leading player in this niche.  Barriers of entry: a learning curve, requires some marketing  nimbleness, and need for stable size and reputation.   However, long term this has  no good ending. Best case we double our market share and flatline growth. But many worse cases.  Bigger, deeper pocket competitor or many, learns our niche attracted by the ROE and stable vol. We are regulated out of the market. Products slowly go obsolete, replaced by Government safety net. We lose our reputation, etc.  See this in spades throughout the fallen out of favor or failed businesses, due to subprime mess.  Low vol high ROE business, until….  For the speculator this would be like choosing a strategy that 95% time gives "Alpha" in a beta model based on quarterly results of recent history.  But all the "alpha" is hidden because, 5% time it causes you to go broke or close to it.  It just hasn't happen yet, or recently.   Basically volatility as a risk measure can hide long term complacency defeating most utility functions.

Going back to the military aspect Bill Egan adds:

An interesting aspect of the fog of war is the common mistake of not reevaluating the plan often. A major cause of this error is that people confuse perseverence towards a goal (a good thing) with sticking to the particular plan they are using at the moment to achieve that goal. Criticism of the plan and proposing actual changes to deal with new information or uncertainty are considered as defeatism or disloyalty and the operationally fluid are smacked down. The no longer relevant plan is then ridden on to failure to a loud chorus of "yes, sir! yes, sir! three bags full, sir!" A pleasant sight if it is your opponent doing this but awful if it is your leadership. I have fond memories of serving as a company commander under a battalion commander who always asked us to tell him if he wasn't making sense and meant it. Good man. 

Phil McDonnell  enlightens:

PhilThere are many deep questions in Mr. Lindkvist's ruminations on Expected Utility Optimization.

My first comment would be that there are at least two distinct classes of utility function. The first class might be what can be called the Ad Hoc Class. This would include the questionnaire method of approximating one's utility function.

Other methods might be classified as normative, as in what one should ideally want to use for a utility function. As a well known example we have the Sharpe Ratio. This is based upon the normative idea that one should maximize expected return but with a quadratic penalty for increased volatility which is treated as a surrogate for risk.

The idea of using a square root function as a weighting for betting returns actually goes back several centuries to Cramer, a mathematician. His friend and frequent correspondent Daniel Bernoulli countered with the idea of a logarithmic weighting function, which is also what I espouse with extensions. Bernoulli's ideas were not translated into English until the 1950s and thus were lost to Western thinking until very recently.

Dr. McDonnell is the author of Optimal Portfolio Modeling, Wiley, 2008



MLThe Practitioners, The Quant and The Nobel Prize were the speakers at todays finale of the NasdaqOMX Derivatives Week in Stockholm. You probably know them better as Denise Hubbard (20 year options trading veteran from the Chicago trading floors, that has traded for Dean Witter among others), Dr. Espen Haug (expert on derivatives, serial book writer on options and former trader for JP Morgan and several hedge funds), Dr. Emanuel Derman (of "My life as a Quant" fame, co-developer of the Black-Derman-Toy interest rate model, and former Managing Director of Goldman Sachs), and of course Dr. William F. Sharpe (winner of 'The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel, 1990', and the STANCO 25 Professor of Finance, Emeritus, at Stanford University's Graduate School of Business.

Dr. Haug started the day by talking about fat tails, past, present and future. Among the most interesting part of his speech was his alluding to having in the drawer some theories on new distributions and implications for option trading. But he didn't go further on the record but said that he would probably write a bit about in on Wilmott. His gave a very good speech, so I for one will definitely be on the lookout for his findings.

Denise Hubbard. It is always gratifying when somebody of great practical experience shares their best do's and dont's. Ms Hubbard shared from a wealth of knowledge in a speech called "School of hard knocks - lessons from the trading floor". Great advice mixed into funny stories from the floor, and off, since she has made a successful transition off the floor and trades from the screen nowadays. "When 'extraordinary popular delusions and the madness of crowds' takes over, mathematical models go out the window" was one of her rules which she then expanded on. Reminded me of Chair quoting Aubrey "never mind the maneuvers, just go straight at them".

Dr. Emanuel Derman came across just as unassuming and nice as I thought he would be from reading his book. Funny too. His speech drew on some material from the book and was about valuations and its discontents. A lot about the failure of models. He concluded with some thoughts on the right way to use financial models and one quote that stuck with me was: "use vulgar variables but in a sophisticated way". I take it to mean that one can get much mileage from quite simple tools or models, as long as one put a lot of thought into HOW to use them.

Finally, and the grand finale, Dr. William F. Sharpe talked about asset allocation looked at from a bigger perspective than mean/variance optimization. The gist of the speech was that if people really just care about those two measures, then fine, mean and variance is good enough. But people usually have more wants and needs. By getting them specified you can draw up utility functions and use them as a basis for the asset allocation (very simplified by this correspondent). Very interesting speech, and it will be interesting to see if this will have any effect on how endowments and pension funds, for example, actually allocates money. There was actually one in the audience*, that had the audacity to ask Dr. Sharpe if there was any interest from practitioners, and if the new model is being used/will be used. He said that it was too early to say, but at least the article had won a prize, so there was at least hope. (*yes you are right, it was this spec list correspondent that asked the question….what can I say, they gave away a baseball cap to the first in the audience that asked a question so I had to spit something out)

All in all, a very interesting day, which ended with drinks and horse divorce, and all smiles (excuse the pun).



LemurBurton Fabricand wrote two interesting books: The Science of Winning and Non-Brownian Movement in the Stock Market. One of the major principles of the books, highly recommended as a supplement to Bacon, is that when a horse goes off at odds that are unusually unappealing, it's good to bet on it. He applies the method to a small sample of horse races, and finds that for specific applications of the principle, a slightly winning system can be developed.

I was reminded of this principle by the very unusual action of the stock market the last two overnights. Thursday evening and Friday morning, New York time, the market moved up about 1% overnight after yet another 40 day low on Monday. The optimism was broken by the Merrill announcement and the disappointing Fed testimony, as well as the credit downgrades. One of the worst declines in history occurred, 47 points from the open to close, exceeded only by the 66 point decline on 4/17/2000.

You would think that after such a decline, especially after an up opening, with fear in the air as never before, there would be a terrible fear about opening the market up again overnight. But no, it's up 2/3% overnight and Japan during the last two days, when the US market has been down 4%, is up some 1% from 13505 at Wednesday's close to 13650 as I write at 11:00 pm EST.

The insight of Fabricand is relevant, that this seeming underlay, this amazing courage in the light of the pessimism is not quite as amateurish , "boy, don't try too hard in the stretch unless you really are going to take it because I want the odds to be up next time" as it might seem.


I have been studying the intake of clay by lemurs and parrots so as to neutralize the alkaloids and other poisons in seeds that they eat and disperse. What are the comparable foods that the market must eat to neutralize bad events? What does the speculator have to do to neutralize the many uses of specialized information and unlimited capital that the trading houses can apply when they are not acting over and above the various Chinese Walls that they can climb whenever there is a merger or downgrade?

I found 38,000 articles on "underestimation of change" on Google and have not read them all yet. Victor Zarnowitz found that underestimation of change was a persistent aspect of his data on GNP forecasts although the rarity of predictions of declines made his data consistent with algebraic underestimates as well. I thought a realistic way to test this was to look at all the moves from close to 2:00 am EST to see if the big ones are underestimates. I found there were 18 big ups of more than 10 points as of 2:00 am, and 18 big declines of more than 10 points. Of these 36 big moves, 18 had reversed by 10:00 am and 18 had continued. Thus, there was no evidence in a real data set without revisions or biases or contrivances, that there was an underestimate of change. 

Martin Lindkvist adds:

Fabricand also wrote the books "Horse Sense" and "Beating the Street".
In both he explains the principle behind his systems: The principle of
maximum confusion. Writes Fabricand in "Horse Sense":

"The betting public is most likely to err in determining the winning
probability of the favorite in those races where the past performance
record of the favorite is very similar to that of one or more horses
in the race."

in "Beating the Street" he continues on the topic:

"For the races, the intuitive idea behind the principle is that
although the favorite appears very much like the other horses in
ability, there must be some reason or reasons not immediately obvious
for the betting public to make that horse favored. Yet, because the
two horses seem alike on the surface, the public may be confused
enough to bet too heavily on the other horse, making the favorite

In "Beating the Street" Fabricand also lays out a stock trading system
based on the principle. 

Yishen Kuik reports:

A new word for today, Geophagy.  Wikipedia says:

Geophagy is the human practice of eating earthy or soil-like substances such as clay, and chalk, in order to obtain essential nutrients such as sulfur and phosphorus from the soil. It is closely related to pica, a classified eating disorder in the DSM-IV characterized by abnormal cravings for nonfood items.

Geophagy is most often seen in rural or preindustrial societies among pregnant women and children. However, it is practiced by members of all races, social classes, ages, and sexes. In other parts of the world the practice is less stigmatized, and geophagy is not studied as a pathology but rather as an "adaptive behavior" that supplements the diet with essential nutrients or treats a disorder such as diarrhea.

In some parts of the world, geophagia is a culturally sanctioned practice. In many parts of the developing world, earth intended for consumption is available for purchase.

Bill Craft relates:

In the rural Southeastern US there exist deposits of Kaolin along the Oconee Group (formerly called the Tuscaloosa Formation). The locals and miners call it 'chalk' because of the white look and ability to stick when wet and permeate when dry any supposedly closed space.

Some of the residents have consumed the 'chalk' for centuries as it was a cure-all. Even the Creek Indians used it with Yaupon Holly (Ilex Vomitoria) for ritual 'cleansing.'

Mix some Washington State Apples with it and you get:


Ahh! Ritual Cleansing! Just what the mistress ordered!

Phil McDonnell explains:

Ketchup/MustardMost toxins are alkaloids, which in turn are bases. These toxins can usually be neutralized by ingesting acids. This is a practice which is not unique to backward civilizations. Check common condiment ingredient lists for vinegar. It is in ketchup, mustard and many other items. Chemically it is an acid. Oil and vinegar salad dressing is another example. When an acid and a base combine they neutralize each other and form a salt. Many salts are water soluble and can be readily flushed from the body.Even in modern society we have many minerals that are important to nutrition and are routinely used as remedies. Antacids such as Tums and Rolaids are simply calcium carbonate — chalk. Products such as Milk of Magnesia and Pepto Bismol are long-time mineral based remedies as well. Most so-called vitamin pills also contain a long list of minerals that are essential to our daily well being.

In the markets the toxins are the bad stocks at any given time. Recently the toxic stocks have been the big banks, most are down something like 50% over the last year. They continue to feel the worst effects of the current financial meltdown. Money usually goes somewhere. So when the banks are sold the good stocks are the beneficiaries. Google is a prime example. The high growth of earnings continue on track. So for a while GOOG continued to surge ahead. But toward the end of a panic the market acts more like the police when they raid a house of ill repute. They take the good girls with the bad. So even the formerly strong GOOG has seen a come down from well above 700 to a touch below 600. But there is nothing wrong with Google as a company. It is only that the big G has to act as an acid to neutralize the toxic base which is the subprime dependent stocks. So that salty taste in your mouth may not be just blood. It may be the act of a market neutralizing its toxins in order to return to good health.

George Parkanyi writes: 

To answer Victor's question about ingesting antidotes to poisonous markets, I eat 2x leveraged short ETFs, and I'll tell you why.

I live in Canada. Our family assets are tied up in tax-deferred registered retirement savings plans and registered education plans denominated in Canadian dollars. Although we can buy U.S. equities (and have to convert currency back and forth every trade), we can't buy options (we can write covered calls), we can't use margin, and we can't use futures. So there was a time when you had two choices in these conditions, sell or hold.

One morning last year I'm making my kids' school lunches, watching the Business News Network, when a commercial comes on proudly trumpeting three new pairs of long/short 2x leveraged ETFs. I remember thinking "Finally, something useful!". Later that day I researched those same Canadian ones, and found the U.S. ones. There was a wide range of available pairings, not only by indices, but by industry sectors as well. Some even paid dividends.

I use a specific strategy that requires full investment. By embedding (OK, eating) just a few of these ETFs on Jan 2, I was able to maintain my holdings, and keep my drawdown to only 3% as of today's close (despite all those NASDAQ stocks — ahem). It didn't take many; at most, 1/6 of the portfolio was in short ETFs, and I even scaled these back as the down-leg progressed.

Bottom line — your garage mechanic or plumber now has the ability to turn his retirement savings into a hedge fund.

If you can now so easily buy what is essentially market-catastrophe or profit-protection insurance, could this be changing the fearscape when markets fall? It makes being a contrarian more complicated. Reminds me of the Monty Python sketch where the people's bandit Dennis Moore is so successful stealing from the rich and giving to the poor that the poor become rich and lazy, leaving him confused and conflicted. Eventually he ends up holding up stage coaches and just re-distributing the wealth amongst the passengers.



FootA military guy I used to drink with came down with Buerger's Disease. The docs at the Veteran's Hospital began cutting off extremities on his body. First came a toe or two. On the left foot. Then a toe or two on the right foot. Then the whole left foot, right foot after that.

He was footless. I kept visiting him at his home following these surgeries. Veteran's outfit bought him a wheelchair. Despite the severe pain he suffered because of the disease he kept on smoking, which is incident to the disease. Kept using alcohol too, along with a bottled concoction of pain medication prescribed by vet docs.

He told war stories mostly, laughed about many things others would cringe over. It would not be polite to repeat what I heard and perhaps his mind — recollections — were embellished by a bent to make a story better and then again by the drugged state of mind he was usually in.

Soon the surgeons removed one half of one leg and then most of what was left of the other leg. They took him from footless to legless.

His wife was Catholic and kept reminding him she wanted him to be baptized before he left this planet for another dimension of being. He put it off until one day I visited him with a gallon of wine and put a Catholic sacramental around his neck. Told him he would be saved if he surrendered to the magic of the sacramental.

Wife was happy — he was happy too, because the last time I drove by his house he was on the sidewalk doing circles with his wheelchair, twirling first one way then another. A wine bottle sticking out of a side pocket in the wheelchair. And he was wearing the sacramental around his neck.

Today he came to my mind as I watched the market cut off a piece of me, one little bit at a time. If this keeps up I won't have a foot to stand on.

Martin Lindkvist replies:

In the market, toes grow back!

I was struck by how well Mr. Smith's post about his friend's being amputated toe by toe, leg by leg, gives color to how he himself felt during Friday's decline. However, while real toes do not grow back, perhaps in the market they do?

For the longer term, I think Dr. Castaldo's recent update of the Fed Model might be indication that the market will stop short of amputating Mr. Smith's legs.

Medium term? Well, as one can never be quite sure what will happen in the market, perhaps we should all keep some grog handy (or sherry for those in management) in case the market amputates a toe on us every now and then.



[Scott Brooks said: "I've come to realize that farmers are, literally, the ultimate speculators."]

Farmer School, lesson one:

Some people when milking a cow for the first time try to stay a bit away from her. That is the wrong approach because if she kicks down at you then, she will get full leverage with her leg and it will hurt more. Instead, you should: squat down, near her, low, while keeping the leverage of a leg down small enough to not hurt you.

It is similar to taking on a position in the markets where you also should: squat down, buy her, low, while keeping the leverage of a leg down small enough to not hurt you.

And if she does kick, you may want to be very careful because she might stay a bit wild for a while as kicking by cows seem to cluster. It is similar to the markets…

Next week's subject: Sowing and reaping.



Even if the random-walk model best approximates reality in the short run, long speculators could still profit from long-run price changes if average upward price changes exceeded average downward price changes. If there is an upward bias, do speculators profit solely and simply because they bear the risks that hedgers transfer to them, or do they profit because they can forecast prices successfully? The 'risk premium' concept is a common point of departure in the literature of futures price behavior.

Whether or not here is a risk premium and, if so, whether it leads to a reasonable expectation of profits, there may be enough observable biases in futures prices to give hope to a speculator attempting to forecast prices.

R. Teweles, F. Jones: The Futures Game - Who Wins, Who Loses, Why? McGraw Hill, 1987



Practical forecaster's almanacEdward Renshaw's "The practical forecasters almanac" (Business One Irwin, 1992), is filled with different ideas and relationships in economics and the stock market.

Ok, I cannot agree with the conclusion of one reviewer on Amazon: "You'll eliminate the need for complicated statistics and computer programming". Ha! Ha!, I want to ask him: "ever heard about changing cycles?"… I guess not. But one does get very many ideas, for follow up on how the pattern has done lately, or just inspiration to tweaks, or for combining with our favourite concepts, and other things we always wanna do when we see a study. It is an especially interesting book if you have a longer term perspective, or want to get the bigger picture for your short term trading.

An example: Residual Volatility and the S&P (this also reminds me of a study Chair did and showed in Active Trader Magazine once, but Chair used the spread in individual stock returns if I remember correctly).Renshaw writes: "Volatility is not necessarily bad for investors if the stock market has been declining or going nowhere. In table 3.31 we calculate a residual volatility measure for the S&P index by subtracting the absolute value of the current year's financial return for the index from its annual high-low ratio expressed as a percentage point range. When the residual volatility has exceeded 16 percentage points, the financial returns for the S&P index in the following year have always been positive since the beginning of World War Two."

The "residual volatility" is currently close to Renshaw's figure, but you can of course run a regression to get a better grip. But the main point with the book is this: You will find many ideas for testing, and thus I recommend the book for the researching speculator.



Principles of Applied Statistics

The book "Principles of Applied Statistics" by Fleming and Nellis (ICBP, 2001), is a good book for the beginner, or for someone who has had an introductory undergraduate course in statistics and wants to review the key concepts again.

For a beginner learning statistics on their own with little mathematics background, I would think that it makes sense to first read "Statistics without tears" by Roundtree (Allyn and Bacon, 2003) , followed by Fleming and Nellis, before tackling a text like Vic and Laurel's favorite Snedecors' "Statistical Methods" (Iowa State U. Press, 1989). Fleming and Nellis goes deeper than Roundtree, introducing more of the mathematics behind the concepts, while being still mostly concerned about the practical illustration of the techniques. It also has worked examples using Minitab and Excel. Since many start their statistical analysis in the latter program, this may be of help to some specs just starting out to do statistical tests.

The Fleming and Nellis book is well organised, divided in six parts with each part starting out with a schematic overview of the content and structure of each chapter and how each topic relates to other topics. Every chapter starts by going through what the student should know after having gone through the chapter. The chapter ends with the aforementioned worked examples.

In all, a good introduction to key concepts in statistics.



CardanoGerolamo Cardano 1501-1576

From Wikipedia ………"Cardano was notoriously short of money and kept himself solvent by being an accomplished gambler and chess player. His book about games of chance, Liber de ludo aleae, written in the 1560s but published only in 1663 after his death, contains the first systematic treatment of probability, as well as a section on effectivecheating methods.

Cardano invented several mechanical devices including the combination lock, the gimbal consisting of three concentric rings allowing a supported compass or gyroscope to rotate freely, and the Cardan shaft with universal joints, which allows the transmission of rotary motion at various angles and is used in vehicles to this day. He made several contributions to hydrodynamics and held that perpetual motion is impossible, except in celestial bodies. He published two encyclopedias of natural science which contain a wide variety of inventions, facts, and occult superstitions. He also introduced the Cardan grille, a cryptographic tool, in 1550.

Significantly, in the history of deaf education, he was one of the first to state that deaf people could learn without learning how to speak first…….

……He died… …on the day he had (supposedly) astrologically predicted earlier; some suspect he may have committed suicide."



 When I read Bacon I often get the urge to play the ponies again. I mean it seems so easy after having gone through all the grand ideas in the book. Perhaps it also is because the first time I read Bacon I actually did make a bet based on one of the methods in the book and the horse won, paying 8 to 1! Sadly the next few all were losers and since I have not played. But reading the book usually makes me take home the latest tote sheets for perusal.

After having looked a bit at all the different angles, I always come to the same conclusion: Maybe that up-down horse game on Wall Street isn't so bad after all.



 Regarding the Swedish tax situation, it is encouraging that we now have a government that aims to lower taxes. At over 50% of GDP we are highest in the world. I am sure that it will be very beneficial long-term as huge amounts of money currently are held outside the country to avoid taxes, and this outflow will be lessened and money and companies will instead grow here. It will be a triumph for the optimists.

While companies and high net individuals try to lower taxes by either going abroad or at least keeping their capital abroad, ordinary citizens gravitate towards using the underground economy and paying Polish guest workers outside the tax system for help with cleaning, house renovation and such. Even a few ministers in the government did that, and had to leave their posts once discovered. But this excerpt from the earlier mentioned pdf, is too funny by far, showing that even the tax authority tries to avoid the sky high taxes here.

"Even the Swedish tax authority tries to avoid Swedish taxes. As noted by the Wall Street Journal, 'When it comes to paying taxes itself, the Swedish Tax Authority, responsible for collecting some of the highest in the world, would just as soon keep them as low as possible. It's saving a bundle on the production of slick TV spots that encourage Swedes to file online by producing them in the neighboring free-market, low-tax haven of Estonia'. _Spokesman Björn Tharnstrom told us, "We decided to do it in Tallinn because the costs are lower. One of those costs is taxes, of course." 

Victor Niederhoffer asks: 

Do you see any opportunities for Swedish equities with new tax rates?

Henrik Andersson comments:

It might come as a surprise that despite the highest tax rates in the world, the Swedish stock market is one of the global winners during the past 100 years or so. Of course it has to do with the state of the country 100 years ago not high taxes.

The earnings yield differential for the Swedish equity market is currently 2.0%.

Kim Zussman adds:

Point at figure analysis suggests high correlation between national tax rates and risk-return profiles of the indigenous female. Like Sweden, Russia has exorbitant nominal tax rates commensurate with 100% non-compliance.

Any comments about reduction in US tax rates relating to immigration patterns or legislated anti-social Darwinism are bifurcative.

From Jan-Petter Janssen:

My macroeconomics teacher told an anecdote about the Norwegian tax system (Norway's tax system is very similar to neighboring Sweden's.) An American professor came visiting him while he was building a sauna. The American just couldn't understand why he was making it himself. Did the Norwegian professors really get paid so badly he couldn't afford a carpenter? Well, the answer was both yes and no. No, the wages were quite good. Yes, even quite high wages could not buy much labor. The Norwegian came up with a calculation that stated this problem. After income taxes, VAT and the employer's tax, a gross $4 has to be made in order to leave the carpenter with $1.

However, while the economic policy makes labor-intensive services ridiculously expensive, the stock market is flying high. The economy is excellent in supplying our natural resources to a demanding world. In February 2003 the benchmark was playing with sub 100 levels. This Friday it passed the 500 mark for the first time. 

Thomas Bjurlof writes:

I left Sweden some 25 years ago a never returned (except for visits) partly for reasons related to the tax regime and the monolithic political culture. There were other reasons more related to opportunity.

When my father died in 1992 I spent a couple of months in Sweden and I then invested in a number of smaller tech companies. You can imagine the results having timed the bottom of the 1992 crisis and the beginning of the Internet boom (by luck, since in those days I had no idea what a banking crisis was).

The event that tipped my decision to invest was that someone offered gold as payment for some items I sold! I don't know whether this event was representative, but it certainly hinted at a shortage of liquidity in the markets.

I have recently noticed that GaveKal is very upbeat about the Swedish market, so Martin's positive statements about taxation intrigue me. What if tax rates decline say an average of 10%? Is there any research that quantifies the effect of taxation on the market? I understand the direction a change will cause, but what about the quantity?

My question is what reason is there to believe that there will be significant sustainable change to the system this time? Should we start believing in a Thatcherite change emerging in Western Europe? Is there a new "Swedish Model"?

Since there has been a cultural connection between France and Sweden for a long time, might the election of Sarkozy be a first hint of a tipping point? 

Martin Lindkvist responds:

Indeed, Thomas hits the nail on the head as we had a "new start" also in 1991 when a right wing government started to lower taxes only to be voted out of power three years later and taxes once again ware raised. And I don't know how good our chances are for a lower tax environment for the long term, although my gut tells me that it's less than a 50% chance (if that sounds pessimistic, it should be said that I still think we have a better chance now then ever, not least because of international development).

The problem you see is that to lower the tax rates, the costs must of course be lowered, and the obvious and most important cost savings can be made in the redistribution area. And then there are always groups that gets their benefits lowered and are an easy target for the socialists in the next election.

In a sense it is a miracle that the right wing won the election at all. Ha ha, they had to rebrand themselves as "the new labor party." This was true because one of the most important changes has been to start to lower taxes on work and at the same time lower unemployment benefits. Thus it should pay to work. They did get that logic across, but it has been harder for them to get across why it is important to take away taxes like the wealth tax and realty tax. And that might be why they would fall way short of winning the election were it be held again today.

It is amazing but the average Swede has no clue how much he or she pay in taxes. If you ask, you might get an answer like 31%, which is the typical tax for a worker up to about SEK25k a month. If you ask one that is paid more, you might get an answer of 55%, which is the highest marginal tax rate. They are both wrong of course since you have to add a lot to get the full picture. Social costs are paid by the employer but they lower the room for paying the worker.

Then you have value added tax on most things bought, and special taxes on things like liquor, gas, cigarettes, etc. Realty tax of course also raises the rent for those that don't actually own their own house. And more. The Swedish taxpayers association estimates the real tax for a low paid worker to be 65% for a person earning SEK 132k (that is less than USD 20k for crying out loud!), and 69% if you are at a "lofty" SEK 397k (and it does not stop there of course but goes much higher the more you earn).

The real irony is that since the person earning more sees more tax being withheld on the paycheck, percentage wise, he is more likely to vote for the right wing than the poor guy not earning much. But the taxation is almost as high on the latter.

It is a shame that Swedish people have been brainwashed to the extent that they don't even understand what monster they have created in the Swedish tax system. And this is where the rubber meets the road. If things are to change for real this time, then people will have to wake up and understand that if they are paying between 65-80% of their real earnings in tax then they are not free. The day they wake up and want to be free we can expect lasting change



 One of the giveaways of imposters is their use of highly technical terms, as if they are on a loftier plane of understanding higher math than you and I. For instance, the Fake Doctor said today "at the moment, I still say as I said before, by algebraic implications, the odds are 2 to 1 we won't have a recession," referring to some probabilities from Fed researchers about the odds of a business slowdown, when the yield curve is inverted or when the expansion has run X quarters or more.

There are so many problems with such "algebraic" implications, starting with changing cycles, retrospection, multiple comparisons, the part-whole fallacy, and the general impossibility of predicting from retrospective small numbers of observations. But it brings up the general subject of key semantic indicators of poseurs and imposters. What key words do CEOs, advisers, et al, use when attempting to appear rigorous and profound and smart? Words that should act as a leading indicator of staying away and avoiding such poseurs? To start off, I would propose lognormal and neural networks as two other key semantic posings.

Martin Lindkvist adds:

Greenspan has been all over the media today, but I saw the headline yesterday evening, so perhaps some people got frightened and used it as a reason to sell. He now says there is "a 2 to 1 chance that the US avoids a recession." But he said something like "a 1 in 3 risk of a recession" in February. Is he trying to be funny? Or maybe he just wants to avoid being called a pessimist? Why is it that he always is in the headlines talking about recession as soon as the market goes down? Does he miss the limelight?

Victor Niederhoffer remarks:

Yes. I believe he suffers from the old lion displaced from the pride syndrome that so many other old men suffer from. It is limned in grotesque detail in the indie movie, Little Miss Sunshine. 

George Zachar adds:

Another old lion scandalized by youth:

May 16 (Bloomberg) — Nothing in John Whitehead's 37-year career at Goldman Sachs Group Inc. prepared him for the excesses of today's Wall Street. "I'm appalled at the salaries," the retired co-chairman of the securities industry's most profitable firm said in an interview this week. At Goldman, which paid Chairman and Chief Executive Officer Lloyd Blankfein $54 million last year, compensation levels are "shocking,'' Whitehead said. "They're the leaders in this outrageous increase.''

From Gordon Haave: 

I have always thought the #1 way to spot a fraud would be based on the percentage of falsifiable statements per total words spoken/written. The issue you raise, i.e., speaking on a plane above others, would count to total words but not towards falsifiable statements. The general point of such statements is "until you have my level of education on this subject, you are unqualified to falsify my statements". Of course, one can't attain that level of education, because part of the education would be agreeing with them.

An example in the world of trading would be a discussion of Elliot wave theory. The Elliot wave folks defend themselves by taking it deeper and deeper into the theory to a level that you can't attain without spending years studying it. If you study it with an open mind, you will quit studying it after a few weeks. If you push on, you will have a heavy bias towards believing it in order to justify the amount of time you put in.

This is also very prevalent in academia. The most useless of all professors tend to just make up entire new words, and speak in the most complicated of matters solely to keep you from pointing out that the emperor has no clothes.

Now, you ask how to quantify and test? I have given a shot at quantifying, but you can't test. That is the whole point. They prevent you from testing because the statements are always non-falsifiable.

From Sushil Kedia: 

Regarding the Chair's posting, focusing back upon CEOs and their ilk operating or claiming to operate at a higher plane:

1. Descriptive handles: for example when on CN*C market analysts / advisors start describing market as a tough animal, as G_d etc., etc., and not answering to the point, that is, where do they think the analysis is going.

2. Deflective handles: words like in spite of, despite, even after, in the face of a hostile, or for example a Chairman's report / comment in corporate annual reports saying that despite competitive challenges your company has done well.

3. Picking the Fly: secondary variables of valuation like market share, cost management, planning. An example is,"We have chosen to push for a continued growth in market share and are certain that in the long run this would continue to accrue value to our shareholders." [Oh I thought returns in excess of the cost of funds created value, unless you believe in today's age and times you would one day become a monopoly while continuing to feed the expansion of your ego.]

4. Shifting in Time: that brings to mind another key handle called, "In the long run". Would a bad trade qualify to become a good investment? Oh, often it would if you are in the presence of an advisor. In the long run, none of them have died.

John Floyd writes:

This may get off the track of the question's intent but I think there are a number of facets of this to explore that are of use in vetting imposters, as well as helping to find profitable trading opportunities. There is choice of words, clothes, cars, etc. that all give clues.

Beyond the actual word choices and phrases, I think one should look at the number of times certain words are used and word choices changed. The currency markets, for example, have had a fixation on Trichet of the ECB's use of the words "strong vigilance". Another example would be the number of times certain words such as "slower" are used in U.S. Fed comments. The degrees to which these words are expected and unexpected by markets as well as the shifts in language often expose opportunities. Yesterday for example the fact that the market had become calloused to "strong vigilance" yielded no reaction and the Euro actually weakened in part on the comments.

Steven Pinker has done some interesting work on linguistics and cognition. I have also heard that both Mark Frank and Paul Ekman have done some worthwhile work on non-verbal communication. Marc Salem, while some of his work is clearly of the "fun" and non-scientific variety, is entertaining and I would recommend his live shows when he is in town. 

Vic replies:

I had in mind terms such as "Pareto distribution" and "infinite variance" and "closed-form solutions" or attempts to absorb prestige from academic institutions like Stanford, Caltech, MIT, or Princeton, through their "luster" and "close encounters" thereto, a la the magician who can bend keys and spoons at will. 

From Easan Katir: 

There was a certain bond trader in London who was horrible at trading, but could talk such a good story he was able to move from one high-paying desk to another. He was head of trading for a Japanese Bank, last I checked. Anyway, his favorite word to throw into a conversation was "hypersclericity". I don't know how to test prospectively, but retrospectively, when the secret account where he hid his losses came to light, it was game over. 

Vincent Andres writes: 

As a programmer working with algorithms, I must say that I'm a bit distressed seeing algorithms often blamed as faulty rather than the users. Every morning I use my razor. Yet in the hand of a baby, a razor would clearly be horrible. Should I throw my razor away?

It's exactly the same thing with algorithms, though this is not to say that there aren't bad algorithms. Hundreds are invented every day (mainly rococo useless constructions). But generally those algorithms don't reach the news.

Jason Ruspini remarks:

For many people, even "bootstrapping methods" is buzzwording. It does come back to the user/context. "Correlation" can be a buzzword, and often is. Count the unnecessary syllables. On Friday's 8pm show a CEO cited a "one hundred basis point" improvement in margins. 

Vic comments again:

Part of the pseudo-math is using a terms when one does not know the first thing about what it means. The idea that the frequency distribution of some aspect of market prices or paths more closely fits a normal distribution than a log-normal distribution, and that this explains long tails/isn't properly priced, is so complicated that it would take the most competent of practicing statisticians to unravel it.

When the person who has never had a statistics course uses it, and pretends that he has the same understanding as great 'mathletes' such as the mediaval liberal fund, or the Harvard opera fundist, or the math arbitragers from Columbia use it — why that's transference and flimflammery squared.

It amazes me that it is so easy to fool so many with these high sounding words. The other aspect of course, is that those who know math and use the words properly often lack the wisdom to consider why such exact and precise and computationally intensive methods are completely useless except as a marketing tool, due to such things as the law of simplicity, the principle of ever changing cycles, and multiple comparisons.



 As bearishness is surfacing in our midst, I thought I better refer to Ken Fisher's latest column in Forbes.

Nigel Davies comments:

There is no doubt that over a long period of time stocks go up. This is not the issue. The problem is that 20% of the time the market is lower five years hence, and 26% of the time two years hence. I also believe that serious housing declines hit stocks.

This has nothing to do with bearish propaganda; these are hard facts. Now there may well be reasons why this is not the case, not least of which is the GaveKal thinking. But I should point out that the GaveKal approach has not been quantified and therefore, unless I'm mistaken, qualifies as 'mumbo'.

But the real issue here is in why any counter-arguments are ignored or shouted down as 'bearish propaganda', even when they are reasonable. Now there is no doubt that bearish propaganda exists, but delusion is not a one-way street.

Ken Fisher's view is untested mumbo, as one can see from the title 'Never Before'. And as I'm quite enjoying playing a bear (albeit one who only ever takes the long side), the obvious answer to this is that if the consumer spending spree comes to an end (because they can no longer use their new found housing wealth as a checking account), earnings yields will shortly be heading south.

Vic mentions:

During the last several years, many chronic bears have submitted original pieces to our site, and if they have a strong point, and argue it well, we are always happy to publish it.

I can't agree with Nigel’s point about some of the two and x year changes being down, as the studies of Fisher and Lorie show that when you look at the distribution of returns by holding periods, that almost all of the seven year returns are up, and an extraordinarily high percentage of them yield returns of more than 15% a year compounded.

These results are completely consistent with those that would be expected from a 10% a year drift with a standard deviation between years of about that much. Many people try to grind against the house in Vegas and we know they all end up broke. To try to grind against a drift like this is sure to end up in the 97% yearly loss that one of the chronic bears (who claims he caught the Feb. 27th debacle) actually experiences. Imagine what the fate of those who actually followed the advice and views of the weekly financial columnist have been — how many times would they have lost 97% in a year while they waited for events like the Oct. 19th, 1987 landslide to occur. How terrible it was that rather than receiving a heads up to cover their shorts and get back in the market, the weekly financial columnist told them that the Oct. 19th, 1987 decline of 25% was just a beginning.

The same is true of the key level boys who state that this or that level, down 5% from the current, is what the pros are watching closely. Are they bullish then or bearish, and what happens to the 10% a year drift against them as they wait for that 'level the pros are watching' to actually occur in the fullness of time?

They will all end up ghosts in Trinity Church, whilst they wait for their key levels, and as it has so often been in the past, my pocket book will always be open to them, whether for a lunch or otherwise.

Hanny Saad offers:

I am one who writes naked puts very frequently and find them very profitable. I am aware of the dangers (or some of the dangers) associated with this practice including specialists gunning for certain active strikes the same way the do with stops, etc., and I sometimes modify the pos. to credit spreads. I even use them instead of limit orders in some cases when I am more aggressive and look for assignment.

Could Vic and Laurel kindly clarify the dangers of this? I am under the impression that writing puts is consistent with the 10%drift and is generally taking a bullish stance to the markets. I am particularly interested in this as I am very active with this strategy and it has been very rewarding in the past, but I hope that the mistress is not hiding behind the curtain to take it all back in one blow. 

Craig Mee adds: 

There was one particularly gifted option trader on the Sydney futures exchange trading floor, who regularly, generated considerable monthly returns trading options, (selling puts, just one of his many strategies) — however each year for many years he would blow up and blow up big, only for a new underwriter to get him back in to trading, (maybe lulled in by his solid monthly record, up until the time it took him out of the game).

Maybe his risk management left a lot to be desired, but as one trader said me after Sept. 11th, for every dollar in the market, you need 10 in the bank (to cover not getting squeezed out of positions and to cover extended and added margin requirements by the clearing houses when volatility goes through the roof).

That one little black swan can kick up some dust.

Gordon Haave comments:

Selling naked puts is not the only strategy where, in essence, you are receiving income in exchange for assuming the risk of very unlikely events. What is great about them is that these events are so rare, that when they happen you (the manager) can shrug them off as a one time event that you have now learned from … and get back in business with new capital.

Chris Cooper responds:

Prof. Haave's words strike me as true. On the other hand, it seems likely that in a market subject to a 10% drift, where that drift is not modeled in the option pricing formulas, there may very well be some positive expectation in selling naked (or semi-naked) puts. Since I have assiduously avoided options in the past because of concerns about liquidity and execution costs, perhaps it is time to reevaluate, but I have several concerns.

A skewed distribution of gains, such as one receives by selling OTM puts, is undesirable for one trading his own money. The market crashes are so rare that it will take many years to see enough of them to trust that you can model their frequency/amplitude. It is thus easy to fool yourself about the expectation of your model, and it is also easy to get wiped out. By hedging you can transform the fat left-side tail into a better-behaved distribution function. Is this what people do in practice, or do they very often run mostly unhedged, since any hedge costs money?I can imagine various ways to hedge, such as: stop-loss on the naked puts; sell futures; buy further OTM puts; and probably many more creative strategies. These can be dynamic or static. What is the best practice, assuming that you need to have good liquidity and keep your hedging costs at a minimum?

Isn't selling a put a combination of a directional bet on the market plus a bet that volatility will not be rising? If so, then does it make sense to separate the two? Buying futures would be the directional component, and one could sell volatility by selling both calls and puts. Am I seeing this correctly, or is there a better way?Is it better to let your OTM puts expire worthless, or does it make sense to sell them before expiration to free up capital?

What about execution costs? The spreads in options always seem high compared to futures or stocks. Am I looking at this in the wrong way? Does it help to sell puts by entering a limit order on the ask, and adjust it based on delta and the underlying? How is liquidity in these markets, compared to futures?

It has always seemed to me that the derivatives markets are obfuscated by jargon.

Russel Sears comments:

The bears' argument is built on the relatively recent housing boom and its extraordinary recent returns, 2000-2005. It is as if the "old economy" insisted its importance in a post dotcom bubble. The bears' argument boils down to: stock market returns are dependent on housing market returns. This may very well have been case recently. But should we be shocked to find a regime change, just as the housing market slumps? Obviously the 100 year drift in the stock market, cannot always be dependent on a 10% drift in the housing market. This is because the housing market is limited by the income level of the typical buyer.



 When we do a study based on historical data and find a statistically significant result at the 5% level, we really are saying that there is less than a 5% chance that this study is completely attributable to chance. But if we observe some pattern in recent market action and then study it, that can be a problem: the multiple hypotheses problem.

One might think that if only one test is done that only one hypothesis was tested. Sometimes this is true. Other times traders will be intense students of the markets and notice a recurrent pattern. The trader then forms a hypothesis based on this pattern. It is properly tested on the most recent data and shows itself to be statistically significant.

There are two problems with this approach. First, if "the most recent data" include the same patterns that were observed and used to form the hypothesis then we are subject to the multiple hypothesis issue. This is true because that exquisite pattern-matching machine called the human mind continually looks for non-randomness and meaning in everything it sees. The mind tries out incredibly many hypotheses all the time. Most of us cannot even guess how many hypotheses our mind tries out before we identify one as interesting. So including the data, which formed the hypothesis, implicitly includes an element of multiple hypothesis testing.

The other problem is that we already know that the data will validate our study because it was used to help form the hypothesis. So it is not independent data but inherently biased. Thus our significance tests will be biased toward acceptance.

The best way to do these kinds of studies is to form the hypothesis on one data set and to test it on another completely different data set from another period.

Bruno Ombreux adds:

Or consider the same period but another market. For instance, if some phenomenon shows up in US stocks, test it on French and German stocks, too. There must be a reason for the putative phenomenon, either microstructural, behavioral, or economic. If so, it should show up in several markets. This extends the amount of testable data. One must be cautious with microstructure however, because it can differ. 

Philip J. McDonnell responds:

I do not agree with the idea of testing on data from different markets during the same time period, because many markets are highly correlated on a coterminal basis, sometimes as much as 90%. So it is really not an independent test on independent data.

But when one uses different time periods the correlations drop to near zero. So we can conclude that the data are truly out of sample.

Bruno Ombreux replies:

Dr. McDonnell is 100% right, but I still think it is not completely worthless to extend the sample to other markets. If you test a hypothesis on the US market, you'll be interested in the cases when you reject the null. Now, you test the German market and you still reject the null. You're right — not very useful. But if you fail to reject it on the German market, you need to come up with a very good explanation why it would work in the USA and not in Germany.

This is not nearly as good as different time periods, but it can be useful and increase understanding. 

Yishen Kuik adds:

I like to take an idea that has demonstrated its worthiness in actual trading in the US, then port it to other countries to see whether it works or not. If one has a group of countries for which the idea works and another for which it does not, it becomes interesting to try to figure out what members of each group have in common.

Nigel Davies remarks:

Presumably you're also taking account of time zones here. I've noticed that other markets tend to be led by the US during the day session (and even a couple of hours before its open) and have their measure of independence at other times. China is probably leading the overnight action now and Europe dominates during its morning. So perhaps it's not so much cultural as different time snapshots showing a certain similarity.

Martin Lindkvist extends:

Like the human flus that originate in Asia, many market ones seem to come from there too. Now, last night's Chinese flu seems to be of the same strain as that of late February. And as such, the market's immune system should be better prepared now. Perhaps a bit of coughing, and some sneezing for a little while, but not much of a fever this time? 

Henry Carstens adduces:

From a book recently recommended to me: "Routine design involves solving familiar problems, reusing large portions of prior solutions. Innovative design, on the other hand, involves finding novel solutions to unfamiliar problems." To borrow a quote from a friend, "Better necessarily means different." 



Theme (music), the initial or principal melody in a musical piece

Theme (literature), the unifying subject or idea of a story

Theme (visual arts), the unifying subject or idea of a visual work

Theme (computing), a custom graphical appearance for certain software, similar to a skin

Theme (linguistics), that part of a sentence which indicates what is being talked about

Theme music, signature music which recurs in a film, television program or performance

Theme (stock market), high at or soon after open, selloff, then strong up move luring in buyers, only to sell off again at or soon after next open….

Thanks to wiki, for the first six, thanks to the mistress for the last one.



Stephen Maturin and Jack Aubrey, in "The Mauritius Command," by Patrick O'Brian:

Stephen … looked at Jack with his pale, expressionless eyes, looking objectively at his friend, tall, sanguine, almost beefy, full of health, rich, and under his kindly though moderate concern happy and even triumphant. He thought, 'You cannot blame the bull because the frog burst: the bull has no comprehension of the affair…'

This week the shorts must have felt just like the frog when the bull burst it. But what happens afterwards? Well, it seems the bull has no comprehension of the affair and just races on.

Since the beginning of 2003, there have been five instances of an up week of more than three percent (S&P Futures). The next week the market was up five out of five for an average of another one percent.




 Ulf af Trolle was a famous Swedish business consultant who was fond of saying,

"If you really have to make an economical prediction, then follow this golden rule: Make the prediction optimistic. If you are right, then you will get a reputation to be extraordinary skilled. If you are wrong people will sympathize with you. At least you did your best. If you instead make a pessimistic prediction, and get it wrong, then you are a klutz. And if you are right, then you will be blamed for creating the situation."

I am not so sure that Mr. Trolle kept positive all his life though. Late in his life, he worked 13 years on his magnum opus, a book about Swedish economical solutions. Then he took his only original copy of the 250-page manuscript to be copied — only to have it shredded to 50,000 pieces when a worker confused the copier with the shredder.



 The Swedish Riksbank today raised the benchmark interest rate .25% to 3.25%. The decision was awaited, but the main thing today was the Riksbank's new report.

Before, they have made an inflation forecast, and as their stated goal was to keep inflation around 2%. This report has been the basis for markets expectation of what the Riksbank will do with their benchmark interest rate. From today, the Riksbank actually forecasts what they will do, saying that they probably will raise the rate 0.25% within the next six months, and then be able to keep it there for a while. They also give an explicit forecast for the benchmark (quarterly average) until 2010.

I note that most market forecasters had forecasted a higher rate of increase than they currently do. We'll see what happens, but it is interesting with such openness, modeled I believe after their Norwegian colleagues.



"In and out of many brokerage offices there hustled wild-eyed individuals with charts under their arms, who would hold forth and show you just where and how and why the ‘big fellows’ were doing this or that with their favorite stocks. Yet none of them seemed to have much money. Possibly it was because they followed a strict set of rules and did not use much intelligence. It seems that the charts told them exactly what to do!"

From "How I Trade and Invest in Stocks and Bonds," by Richard D. Wyckoff, 1924.  



 Denny's is my kids favorite restaurant. They've noticed that the Denny's by our house is always at least 1/2 full, or more, no matter when we go. David seems to think that they have a steady clientele that is growing.

The kids like the fundamentals they've researched from the analyst.

They think the food is good, served quickly and has catchy names (Moon's over MyHammy … who can argue with that name … and Hunter likes the kid's menu).

Mr. Russell (their teacher) likes the senior menu (Mr. Russell bought Denny's in his trading portfolio two weeks ago).

David is very excited about doing this trade, but I told him we should do more research. He said, "Let's ask the spec list, they'll know what to do" (who can argue with that)

So … what is the list's opinion of Denny's?

Tom Larsen replies:

Maybe the kids should try to find someone that doesn't like Denny's and ask why.

Maybe the kids could estimate what it costs to make a specific meal at Denny's and then compare that to the price. They could count how many customers are in the restaurant. They could see what people are eating. Maybe they could have a short conversation with the local manager about how he manages the restaurant.

They could learn about the different jobs at Denny's. They could learn what a franchise is. They could also think about the company's advertising and whether it works or not. They could try to determine which restaurants are "the competition," and test the food at these establishments as well. This research could get really expensive, Scott, but if you are taking kids out to eat, Denny's is a good place to go.

David Wren-Hardin Adds:

I would have them analyze the upcoming increase in minimum wage and its possible impact on Denny's costs.

Martin Lindkvist Suggests:

 The stock could work great, but I would ask one more question: Do other investors already know this, and is it discounted? By discussing whether a restaurant that stinks and has bad food actually could be a better investment one stands a better chance not investing in something that "should" work great but that others have already invested in and driven up the price. Compare with Birinyi Research that just showed that the five least liked companies by analysts (Dow components) beat the 5 most liked by analysts in each of the five or so last years. They also beat the average of the thirty years. As I said, it can be a great investment, that restaurant you are discussing, but I think the discussion could give more meals for a lifetime including expectations.

J. T. Holley Contributes:

 A few years ago when I got to go to one of those “pat on the back” conferences w/ Paine Webber they had Lou Holtz come speak. He spoke to a crowd of folks that more than most liked modern portfolio theory and randomness. The best part was when he started to speak about investing and speculation. One day back in the 70’s or 80’s a guy asked him if he’d like to invest in a McDonald’s franchise. Lou said that he had been plenty of times but went by one that night and had a meal. He looked up at the Arches and underneath it read at the time “Millions Served”. He thought at that time that it had saturated the marketplace and probably wasn’t a good investment. Now the sign reads “Billions Served” so he said take that for what his skills were worth in speculation.

The other thing Lou mentioned in the spirit of “Racquet Sports” was when he came onto campus one day when Rocket Ismael first came to Notre Dame. He said that he knew Rocket was going to be one of the fastest players that he’d ever coach when he looked over and saw him playing Tennis. After a subtle pause he exclaimed “by himself”. I’ve probably missed out on a ton of good companies in my short investment life so far, but I had an older man tell he upon entering the “Speculative” business to stay away from Airplane, Restaurant, and Mining stocks and to this day I’ve done that (untested out of blind obedience to the unnecessary fixed rule to obey your elders).

Scott Brooks further adds: 

I just thought I'd update the group on the Brooks Kids Question on Denny's from the other day:

David is driving me crazy. He wants to buy Denny's stock and buy it now.

He is very excited about making this trade. He is cajoling, pushing, negotiating … and just short of begging me to make this trade for him. He has made up his mind and wants it now … however, I want him to wait.

I've told him that we need to do more research and figure out if this is a stock he wants to buy. He says, "Dad, you buy stocks a lot quicker than this … you don't spend this much time doing research …".

Of course he's right. I pull the trigger a lot quicker. But, as I've told him, I've been doing this a long time and I think I have a pretty good handle on what I'm doing (or at least I'd like to think I do).

I've told him that we need to wait until he gets more questions answered about the stock. I've told him that this is going to be a research project for him and the other kids. They should research this out, prepare a list of vital questions and get them answered before making the trade … or not making the trade … (as I've tried to tell him, some of the best things I've done in investing are the trades I didn't make).

But still he wants it. I've decided to wait and make him and the other kids do their research. I've concluded that it will be of more value to them to learn the details of the process (from the fundamentals on up) than to just make the trade on a little more than a whim and then see what happens.

I was tempted to let them make the trade, but decided to wait. I am not so worried about them making the trade and then losing money … I think that would teach them a great lesson. I am worried about them placing the trade and then making money … I think making money on a poorly planned and thought out trade would be far more detrimental to them.

So the trade waits for the research to be done.

Russell Sears adds:

Perhaps I missed the post, but did anybody else suggest counting, besides fundamental analysis?

While complex stats may be beyond the young ones, reading a chart and then doing some math on money should be a clear lesson when it is their own money.

A quick look at DENN max on yahoo shows they tanked big time in '98 to mid 2000 from $10 to below $1, apparently after recapitalization due to heavy debt.

You should have them count what could have happened back then.

Also I would suggest that you mark the dates of their ten Q release on the chart for the last ten quarters.

Perhaps stat significance is beyond them but I think the ideas can be grasped with some visual help. 



I like to put in a resting limit buy order a couple of points below the market when I am bullish. When the market then sometimes comes down to, and facilitates my order, it can go either as a whole, or in several parts, with the confirmation message sounding off something in the range between a big “thomp” and a “ratatatatatata”. My working hypothesis is that the “thomp”, or the whole order going at once is rather bearish for me in the immediate future, and the “ratatatatatata” is rather bullish with several smaller speculators throwing their contracts at my feet. Of course, what comes through as a “thomp” at my end, is just part of bigger fellows “ratatatatatata”.



So my fiancé walks by my desk and asks:

“How’s it going?”.
“Well, I am flat for the day” - I answer.
“How about yesterday?” - she continues.
“Flat yesterday too” - I admit.
“Huh?” - she looks baffled.
“You know, the market was really hard yesterday” - I say, pulling up a chart on the screen showing yesterdays action.
“There, look how it traded down from early morning, and then all day. And continued down this morning too” - I add, to be on the safe side that she will understand how difficult it has been.
“See..?” - I say, certain that I have showed the perfect alibi for my bad result.
“But why didn’t you just sell up there, and buy down here?” - she asks unmoved, pointing at the top and bottom on the chart, without revealing any sign that can tell me if she is serious or not.
“Ehhhh…” - I start.
“I mean, isn’t it obvious, if you want to make a profit, that is?” - she continues.
And with that, she smiles at me and starts walking away. “Duh” is all I can muster up as she vanishes around the corner.

G.M. Nigel Davies takes the opposite side:

With candlestick charts I’ve found it useful to do the opposite and have green for down bars and red for up. Lots of green is often a good time to buy (Scott has done selling it short and is about to buy to cover) whilst lots of red ‘can’ be a good time to take profits (provided it doesn’t keep going up of course in which case it’s better to hang in there).

Instead of red and green, black and white is also good, but the important thing is to use different colours to everyone else (white for down bars and black for up). Red and black tend to symbolise blood and death in Western culture and to see them on your screen can be offputting vis a vis pulling the trigger on longs. Better to have colours you find comforting at such moments.



The first Swede in space knows just what to serve his astronaut colleagues for dinner: moose and crisp bread. Christer Fuglesang, who is set to become the first Swedish astronaut to embark on a space mission next month, said Thursday he will bring a decidedly Scandinavian flavor to the food menu aboard the International Space Station … [Read More]

Fuglesang completed training as astronaut at the European Space Agency in 1993, and at Nasa in 1998. He has since been the poster boy for always being in the back up crew or not getting flights, and then when he finally got scheduled a flight with the shuttle, there was the accident which threw his entrance into space back another few years. He has been a target of endless jokes from standup comedians and such in Sweden for almost a decade now. Well, no more, now he is getting press as the guy who never gave up, as he is bound for space on thursday … [Read More]



I often ask myself what is the purpose of my trading. Yes, I know, I do it for the money, for the intellectual challenge, and all that. I also understand how the markets function by allocating capital and signaling value, etc., and how I am a small, small part of that. But I mean it from a different perspective. Having worked a lot with business planning (mostly with LOTS) in different companies, I often think of how I would characterize my reason for trading if I were to write it in a business plan format. If I sold some gadget for example, I would ask: What is the purpose of the selling of the gadget? Who benefits from it? What is the underlying reason that there will be a value gained from my selling the gadget, from which I can make a profit. I think that the same applies to trading. Furthermore, a good purpose should also function as a day to day rudder and make sure that I do not deviate from my niche. To do that, it should encapsulate what we should do, why and for whom. With a well thought out purpose, we should be guided both in our every day activities as well as our important long term decisions.

During the talk this year in Central Park, Mr. Wiz mentioned something that perhaps is not spelled out as a company or trading purpose, but which I nevertheless think was one of the best fitting purposes I have ever heard, as far as I understand the underlying thinking in the company. He said: “We provide the market with liquidity in fearful situations”. Well, it seems to have worked out quite nicely, and I think there is a lot to be gained by all traders from being very clear with what it is their niche is in the market, and spelling it out in a “trading purpose”.

Scott Brooks adds:

Providing the market with liquidity in fearful situations is tantamount to buying low. The flip side of this coin is providing the markets with liquidity during the great times, which is tantamount to selling high!

This is an investment philosophy that I invented years ago … it is called “Buy Low and Sell High” … (I know, you’re shocked, you did not know I was the inventor of “buy low and sell high”)

But seriously …

This was described to me by a college professor as the “good guy school of investing”. It works like this:

If someone wants to sell you something for far less than it is worth, be a good guy and buy it from them. Conversely, if someone wants to buy something from you for far more than its worth, be a good guy and sell it to them.

The “Good Guy School of Investing” is providing liquidity to the markets during fearful situations (and also providing liquidity when the party the market mistress is throwing is at its crescendo.)

In between, just take advantage of the long term positive drift!

Dr. Kim Zussman comments:

I recall Viktor Frankl’s Man’s Search for Meaning. His conclusion was that we are not in a position to ask life it’s meaning - life will ask you to determine it’s meaning.

Something like ‘what you get out of it is proportional to what you put into it.’ Even if you lose, or under-perform various benchmarks, you get to be ironic.

For some, trading has analogies in most aspects of the universe, and can become self-consuming. To others it is just money; and Buffett, Soros, Ken Smith, etc. all put on their pants one leg at a time and suffer the same frailties we all do.

Laurence Glazier contributes:

This brings to mind the great Armstrong lyrics:

If I never had a cent I’ll be as rich as Rockefeller Gold dust at my feet on the sunny side of the street [More]

So above all let us trade for the love of it! Trading is a two way process and equally important as our purpose is the realization that it shapes us, acting, like other arts, as a mirror.

GM Nigel Davies mentions:

Something I’ve noticed with many very strong chess players is that they don’t need to think about purpose, they are simply at one with the game. And one of the best ways to nobble a tournament leader is to congratulate him on his excellent play and ask what it is that he’s doing right (not that I’d use such a tactic myself).

Accordingly I suggest that one of the goals of mastery is get past the stage of awkward consciousness and discussions such as the present one. For a chess player it should be enough to say ‘I crush, therefore I am’, and the trading version would be ‘I’m profitable, therefore I am’. And the strategies required should be in one’s blood, things that are so well studied and deeply ingrained that one uses them as naturally as breathing.

Jim Sogi adds:

In Trading and Exchanges by Larry Harris of USC discusses why People Trade. People trade to invest, borrow, exchange assets, hedge risks, distribute risks, gamble, speculate, and deal. Understanding the reasons different people trade and the taxonomy of traders, including ourselves, allows understanding the opportunities that arise. Interestingly a smaller percentage of participants are true investors, and even fewer are speculators. Of those even fewer of what he terms informed speculators are the statistical arbitrageurs, of which we compose a small part. Oddly Many do not trade to profit but for other reasons. This is where the speculators purpose in the firmament comes in, and for which we are rewarded, to facilitate the other purposes of the other participants. They pay us for that privilege. Dealers are the ones who sell liquidity, not the speculators. The above does not answer the heart of Mr. Lindkvist’s query, but it does set the framework for the answer which must vary according to each of our purposes and which niche into which we fit in our respective operations.

Larry Williams mentions:

Years ago we did a personality profile at seminars asking traders to list the 3 primary reasons they traded.

None of them listed as the first reason to make money.

Answers were like, “Excitement, Challenge, to show my brother in law I’m smarter than him, etc”

Kim Zussman creates a masochist/self-loathing correlation matrix:

Long Only Bought Hold Sold
Too Soon -$ -$ -$
Too Late -$ -$ -$
Too Long -$ -$ -$
Long/Short Short Flat Long
Market Up Up/Down Down
Short Only
100 Year Return -1,000,000%

Steve Ellison comments:

There is a technique used in ISO certification called SIPOC. In this technique, an organization identifies its suppliers, inputs, processes, outputs, and customers (hence the acronym). The organization divides its processes into those that create value, triggers for value processes, and supporting activities that do not themselves create value for customers but facilitate value creation. This technique can help an organization articulate its value proposition and focus its processes on value creation.

Participating in a SIPOC exercise this week challenged me to consider how I might apply this technique to trading. A trader might create value in any of several ways, including providing liquidity, moving price closer to true value, assuming risk that others wish to avoid, and providing psychological relief by taking other traders’ losing positions off their hands.



I like reading Kenneth Fisher’s columns in Forbes and Bloomberg Money (also available on Fisher’s own site), and I liked his books Super Stocks and Wall Street Waltz (I have not read his 100 Minds That Made the Market). In early December he is due out with a new book The Only Three Questions That Count (excerpt here). Apart from some inspiration for testing, it seems hilarious.

One of the reasons why I like his writing is that he dares to be different and stick his neck out. It also seems that he does a lot of testing of different hypotheses about the market. His works are full of ideas and inspiration for further testing. But — the million dollar question — I have no idea about what his returns have been like. And he has been in the business since 1972 with his own fund from I think the late 70s. He is currently managing $30 billion, so there has to be a long track record somewhere. Can anyone enlighten me?

Steve Ellison replies:

The Political Economist reviewed his book.

“First, what do you believe that is actually false? You may be preventing yourself from making smart investment moves because you’re blinded by falsehoods - ones that you get suckered into believing just because everyone else believes them.

Fisher comes up with some good examples of such falsehoods. You probably believe that stocks perform better starting at times when price/earnings multiples are low - and that they perform worse starting when multiples are high. Haven’t you heard that a million times? Isn’t it the core tenet of ‘value investing?’

According to Fisher’s research, it simply isn’t true. He’s crunched the numbers. Over history, it turns out to just not make much difference whether market multiples are high or low.”

“The second question is, what can I fathom that others find unfathomable? If you’re investing based on ideas that everyone else can grasp, those ideas are probably too stale to make you any money. Go for the things that you think are true - but that everyone else thinks are crazy.”

“The third question is, what the heck is my brain doing to blindside me now? Here Fisher walks us carefully through a minefield of cognitive dysfunctions that trick even smart investors into doing very dumb things.

Fisher points out that two emotions rule most investors’ souls — pride and regret.

We seek to build up our self-image by successful investing, rather then treating success as an end in itself. When we do succeed, we swell up with the pride of it and start believing we can do no wrong. At the same time, we will do nearly anything to avoid the shame of regret - that horrible sinking feeling we get when an investment goes bad, and you have to accept the fact that we really blew it.

Fisher says to turn these emotions inside out. Seek regret - that is, embrace your mistakes and learn from them. Shun pride — invest to make money, not to pump yourself up, and never, ever imagine you are invincible.”

J. T. Holley replies:

Vic and Laurel in Practical Speculations (chapter 2) did a wonderful job of illustrating and showing the reader with the added education of Scatter Plots the “Propaganda of Earnings”. A fish for a lifetime more importantly was the 7 techniques that came from the book “Fine Art of Propaganda”. Since reading the book the two that have come up the most in my observations is Plain-Folking and Bandwagoning. When I read an Ezine or online paper dealing with Finance those two seem to be the most frequent to me or the ones that I find easier to identify.



Years back I read a comment from Tom Dorsey of Dorsey Wright who stated that it is easier for a stock to go from $80 to $100 than from $15 to $20.

Is there an optimal price of a stock to purchase? $30 or above?

If one bought a basket of stocks at $80 at the beginning of the year, and held it for one year, what would be the performance of the basket and would it outperform the S&P index? What would the standard deviation be?

What price should an investor avoid? Below $12 or below $5? What are the reasons for doing so?

James Sogi adds:

Aside from the high/low price issue,

> 20/80

[1] 0.25

> 5/15

[1] 0.33

So it’s about 8% easier.

John Bollinger recalls:

I think the first to dip his toe in this pond was Frederick Macaulay, later of ‘duration‘ fame, writing in the Wall Street Annalist — a NYT publication — in the 1930s, the exact date eludes me.

Martin Lindkvist elaborates:

Ahh… the square root theory. Norman Fosback has a little discussion in Stock Market Logic. The square root theory says the the magnitude of the stocks price move is directly related to the price of the stock. Specifically, for a given market advance, all stocks should change in price based on their square root. So the $15 stock (square root is 3.873) would advance to 24 (3.873+1 squared) and the $80 stock should at the same market advance go to 99 (8.944+1 squared). Or so according to the theory. The gist in any case is that in during an advance it pays to have the lower priced stock which should be more volatile.

Fred Macaulay originated the theory in the Annalist, March 13, 1931. William Dunnigan’s New Blueprints for Gains in Grains from 1956 also has a discussion.

Gibbons Burke replies:

These lines from the first of the Quartets, Burnt Norton, resonate with philosophical thoughts on the nature of the markets, and the study of market history….

Time present and time past
Are both perhaps present in time future,
And time future contained in time past.
If all time is eternally present
All time is unredeemable.
What might have been is an abstraction
Remaining a perpetual possibility
Only in a world of speculation.
What might have been and what has been
Point to one end, which is always present.
Footfalls echo in the memory
Down the passage which we did not take
Towards the door we never opened
Into the rose-garden...


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