Mar
16
Tai Chi and the Markets, from Kevin Bryant
March 16, 2008 | Leave a Comment
Tai chi informs most everything I do. profound physiological change can't help but change one's psychological, emotional, mental, and spiritual processes. Changes are evolutionary, not revolutionary, experienced over years of training.
For me, trading is all about self management. It helps of course to have an edge, but I still find much bigger challenge and opportunity in controlling self, keeping emotion to a minimum, removing ego, greed, and fear, staying in the moment — the often used sporting phrase "staying within yourself" – this is where trading crosses into the spiritual, where awareness and intention are combined in equal measure.
The genius of the human organism when one has entered that rare space, the "zone," is remarkable and I daresay exceeds the genius of most trading programs. it is the same, albeit elusive zone, one pursues whilst engaged in martial contests, presuming nothing — yet expecting everything. One responds to what is and not what one hopes or fears. A state of "excited calm."
In tai chi, "listening" skills are the Holy Grail — discerning the opponent's intention before it manifests in a fist. Yin — "soft" — is the ultimate defensive power. Moments of actual conflict should be few and short. Self-defense starts long before physical contact. "At the slightest move, I move first," a credo providing security on the streets, i.e., choosing the right train seat, the right road, the right time of day, the right word and in the market, particularly recognizing a move before the move.
While the victories are sweet, the real story is in the trades I haven't done, the moments of stillness, waiting, listening for just the right conditions. Training and preparation are much more intensive than any actual contest, making the actual contest a low stress exercise. My active trading is greatly dwarfed by my time studying, watching — listening.
Feb
12
Buy & Hold, Long Term Returns and All That, from Kim Zussman
February 12, 2008 | 4 Comments
In checking historical US stock returns, the probability of loss declines as the holding period increases. Twenty years is commonly touted as safe, but there have only been 4 such (non-overlapping) periods since the Depression so it's hard to feel secure.
(There is also the problem of whether this came by "luck": e.g., look what happened to German and Japanese markets when they lost WWII)
There were four non-overlapping 238 month (2 short of 20 years) periods in DJIA monthly returns 1928-2008. The compounded return of these (w/o div) shows only one which was down (with ending dates):
Date 20Y cpfactor
2/1/2008 5.994
4/4/1988 2.264
6/3/1968 4.941
8/2/1948 0.721
(Dividends formerly a bigger part of total return, so exclusion under-estimates final compounded return)
Randomly re-ordering the same empirical monthly returns into 100 simulated 80 year series, I calculated compounded 238 month returns and checked for up and down periods. Of the 400 simulated 238 month periods, 47/400 were declines (12%). This is about half as often as actually occurred, suggesting that the negative market momentum around the Depression may not have occurred as result of random ordering of monthly returns.
Kevin Bryant counters:
In the grand span of economic history, 100 years of stock market data is barely a drop in the bucket. This is why I derive little comfort from this kind of analysis particularly during the current period which is quickly proving to be well outside normative experience.
Kim Zussman replies:
Just because long-term stock returns are positive, it doesn't mean they continue into the future, but begs the question whether there are better indicators than history. And a related but very different question is the feasibility of deploying insights/leverage to beat buy-and-hold without increased risk of ruin.
That 3 out of 4 twenty year periods in stocks since 1928 were up should make young people with 401K's feel better, but seems dangerously irrelevant for day traders using leverage.
Riz Din adds:
'In checking historical US stock returns, the probability of loss declines as the holding period increases.' - Kim
My favourite chart to illustrate this important point is Figure 76 in Chapter 7 of the Barclay's Equity-Gilt Study. Limited observations, international examples, and changing times provide good reason to be cautious, but it is all to easy to get lost in the month-to-month or year-to-year volatility and lose track of the extent to which downside risk (negative real returns) have rapidly disappeared over time. Indeed, when looking at the UK data (1899-2005) the study finds that 'For holding periods of five years or longer, the incidence of losses greater than 5% or 10% is the same for equities and gilts.'
Over the long haul, the real returns to UK assets have been 5.3% for equities, 1.1% for gilts and 1.0% for cash. For the US since 1925, the numbers are 7.1%, 2.3% and 0.7% respectively.
To quote Christopher Walken in Wedding Crashers: "We have no way of knowing what lays ahead for us in the future. All we can do is use the information at hand to make the best decision possible."
Phil McDonnell writes:
There can be no guarantee that history will repeat.
Those words, in one form or another, are found in virtually every prospectus ever offered by the financial industry. The main reason is that they are true. There really is no guarantee. But to the speculator the real question is how should one bet?
The converse of the history repeats proposition is that it does not repeat. Should one bet on something that has never happened before? Clearly betting on something which has happened frequently in the past is the better choice than something which has not happened. The best of all worlds is to combine a frequentist approach based on counting, tempered with a modicum of judgment and reason based on any changes in the contemporaneous financial landscape.
J.T. Holley comments:
I couldn't agree more, the art w/ the science. I've often thought in reference to Monsieur Le Cygne Noir why one would bet with such conviction on Sisyphus not to roll the rock up the hill, but furthermore that the rock wouldn't come right back down for ole' Sis to push it back up again? It wouldn't take me too long watchin' that rock n roll to place a bet, I'd be there taken the scrapes from those that thought otherwise as well, but not denying them their fair attempt.
Jim Sogi concludes:
The proper questions to ask are: How are things changing, and how does the trading strategy need to evolve to adapt. A dogmatic approach will not lead to good analysis and will lead to mistakes. Things are changing from the 2003-06 regime.
1. Volatility is up.
2. Global influences are greater
3. Governmental influences are increasing.
4. The industry is consolidating and shifting to electronic.
Time series sample selection in data becomes more important since last year. The idea of regimes being helpful in cycle analysis.
Jul
22
Quick Draw, from Scott Brooks
July 22, 2007 | Leave a Comment
Chess master Shelby Lyman writes:
I am reminded of a much different protagonist, the lawman Wyatt Earp who famously survived many gunfights.
His adversaries usually emptied their gun or guns as rapidly as possible in his direction. Earp's modus operandi was markedly different.
Not succumbing to fear or desperation, he calmly and deliberately aimed and fired with devastating accuracy and results. Aware that the revolvers of his time were clumsy and hard to aim, he maximized his chances by emphasizing accuracy rather than speed.
The story of the gunfight reminds me of my college roommate who earned money in the summer as part of a Wild West show. It was not so much a show as it was an experience. Tourists would come to town and my roommate Matt, along with his father, brother and others, would be dressed as real cowboys in a real saloon or blacksmith shop. The whole town as supposed to be authentic (except the tourists). Staged bar fights would break out from a poker game gone bad, live cattle would be corralled. You name it; they had it.
Matt's job was as a gunfighter (same as his dad and brother). People would challenge Matt to gunfights. He would take them out on the street, face them and draw. The winner was the one who shot first (no points for accuracy when shooting blanks).
Matt and his brother made a lot of money betting people that he could beat them in a draw. He never lost. He would even give his adversary the advantage of holding the gun out in the front pointed directly at Matt. Someone would count down, 3, 2, 1, and then they would shoot at each other. All the adversary had to do was pull his trigger before Matt drew his gun and fired it. Matt never lost.
Sound's hard to believe, doesn't it? It did to me. As Matt was telling me this story in our room in the fraternity house, I told him I didn't believe him.
So Matt went and got out his revolvers. He and I both confirmed the chambers were empty. He let me pick whichever gun I wanted. He strapped on the gun belt and holstered the other one. He told me to point my gun right at him and cock the trigger back.
I didn't even need to fight the hammer when pulling the trigger, I simply needed to lightly pull the trigger and click, I would win.
Matt stood in front of me, his fingers lightly feathering his gun. He asked me how much I wanted to bet. Not being stupid (I could smell a hustle and was beginning to doubt my earlier disbelief), I decided we'd do it for fun.
He said, "I'll count to three and then we'll draw." He even did a dry run (of counting) so that I could get the cadence down. He asked me to not pull the trigger before he said 3 and I agreed.
He counted.
3, 2, 1, click.
He won.
To tell you it was a blur would be an understatement. So we repeated it again, and again, and again. He won every time.
Being a good friend, he gave me some lessons drawing a weapon.
First of all, in the movies they show guys drawing their weapons, raising them and shooting. That is all wrong. Matt would grab his gun, withdraw it from the holster while tilting it toward his adversary, and at the same time, the tip of his thumb would be pulling the hammer back and his index finger would be depressing the trigger — all of this happened simultaneously.
When the gun was level and pointed at the adversary, all he had to do was slide his thumb off the trigger (only the very tip was on it) and click, the gun would go off. The gun never left his side. He did not raise it in front of him, he simply slid it out of the holster and shot from the hip. In the old West, as Matt told me, the gunfighters actually wired their triggers back (the trigger was already pulled back), so all the had to do was pull the hammer back with the tip of their thumb and release.
He had been doing this for years, practicing for years and was a master of the quick draw. It was a real treat to watch a true master at work. And it gave me a whole new respect for what it took to be a quick draw artist in the old West.
I would have to surmise that most quick draw artist didn't have very long life expectancy in the old West. Watching Matt, I concluded that no matter how fast you were, the bullet couldn't travel fast enough to make a difference in the nanosecond between the fastest and the second fastest. They would certainly kill each other.
The only way to really win at fast draw was not to play. There is always at least one loser, and sometimes two.
I've found that sometimes in the market, people take things too seriously and feel they have to beat the other guy. They have a sense of competitiveness and ego that requires them to trounce whomever they consider their opponent. The beauty of the market is that no one necessarily has to lose. Since there is a long term positive drift of around 10%, everybody who can stomach the roller coaster ride will win. Sure, there will be bigger winners and lesser winners.
The discrepancy between the big winners and lesser winners comes from ability to exploit human nature coupled with a clear understanding of what the rules are, how the game is played, and that there are true masters out in the world that you simply can't beat, or at least can't beat often enough to make it worthwhile to step in the arena against them.
Unlike a fast draw contest or gunfight against my friend Matt, or John Wesley Hardin or Billy the Kid or Wyatt Earp, where you stand almost zero percent chance of surviving (let alone winning), when playing the market, a simple understanding of the rules and how the game is played, will allow everyone to step into the arena and come out a better and wealthier for having played.
Ken Smith remarks:
Fast draw gunslingers in real killing events did not fire from the hip; it's done only in movies and tourist shows. You can't aim from the hip, at a vital target, a specific body part, as the heart — which is a killing event.
The best guy with a gun took aim and fired, letting the hip-ster beat him to the draw. The draw was not the critical element in the shoot out; it was the aim, the gun the shooter used, the firepower of the load; these were the critical elements.
So, next time an armed criminal draws his weapon, don't worry. Let him take a quick shot while you calmly get a firm shooting grasp of your weapon and take a stance.
Mar
29
A Trading Query, from Kevin Bryant
March 29, 2007 | 1 Comment
I live in the UK. I am looking to do a bit of intraday trading and would like recommendations on the best online trading systems — execution speed and accuracy, charting software, price. I am looking to deal primarily in commodities but may also trade equities and currencies.
Nigel Davies responds:
If you want pictures then one possibility is the software that comes with a Deal4Free account. You can even have live Point & Figure charts there now. It can also do backtesting.
Many UK futures brokerages use J-Trader, which has an intuitive interface and works just fine. I tend to put the resizeable 'Dome' from J-Trader on top of the Deal4Free window, like the way Tuco constructed his gun in The Good, the Bad and the Ugly.
Vince Andres remarks:
Instead of a product name, I propose a few criteria:
- Controllable, easy to master
- Complete, full-featured
- Proprietary, or open-source
- Cost
- Technical support
- Safety/respectability: tool developed by one person or 100?
- Number of users: 500 or 50,000?
- Independent and objective, or a broker tool
- Upgradable
- Customizable
- Confidentiality: can the provider access your algorithms?
This list is far from complete.
Feb
26
Peak Oil, from Stefan Jovanovich
February 26, 2007 | 2 Comments
Here is a link to Vaclav Smil's recent piece on Peak Oil.
Ken Smith writes:
In fact, when the price at the pump hit $3.00 a gallon last summer, it was America's number one gripe.
Filled tank yesterday, price of gas was just short of $3 a gallon for premium. Bought 12 oz of coffee at Starbucks for $1.80 plus tax, just short of $2. There is no shortage of coffee beans. Shortage or supply has nothing to do with price of coffee. Demand for coffee in relation to price is economically irrational since a cup of coffee is mostly water.
What is the cost of water per cup? A cup of coffee and a gallon of gas, what the hell are people bitching about when they buy gas? They should be bitching that coffee cost so much. Gasoline is a bargain. Coffee is expensive.
Kevin Bryant writes:
The professor (Vaclav Smil) may be an expert in many things oil related but I'm not sure he understands the definition of peak oil, at least as Hubbert expressed it. Hubbert himself is sometimes blamed for the confusion until he clarified his methodology in 1982.
Hubbert's theory proceeds from a graphic representation of yearly production divided by cumulative production (an expression of production rate) on a y-axis and cumulative production on the x-axis. On this graph, "peak oil" is that point at which half of total reserves have been produced. Estimates of total reserves are of course up for debate; however, Hubbert's graph can be used quite neatly to extrapolate this value.
After the early production years, data points on the graph form an uncannily straight line. The theory or the main point of the graph is not to predict annual production or even when annual production will decline, rather, it highlights that the ability to find oil is principally determined by the fraction of oil yet to be discovered. One of the best analogies I've come across is the one about fishing in a pond: the more fish you catch, the harder it becomes to catch the next fish. Unfortunately oil has no offspring making the comparison less dramatic than it could be.
Corollaries from Hubbert's main theory then suggest that once peak is reached, production begins to fall precipitously and/or the marginal cost of production increases geometrically. Actual production experience for single wells seems to corroborate the significance of the halfway point. There may be a lot of oil left in the ground but getting it out in ever increasing amounts becomes an increasingly vexing and costly challenge - the Canterell reserves and the tar sands of Canada are prominent examples of these dynamics in action.
For a more detailed discussion of "Hubbert's Peak," Ken Deffeyes (dismissively referred to in the professor's article), also a geologist, has written two books on the subject: Hubbert's Peak: the impending world oil shortage and beyond oil, and The View From Hubbert's Peak.
Stefan Jovanovich adds:
Hubbert will, of course, ultimately be right; there is only a finite amount of petroleum and other usable hydrocarbons in the earth's crust. What Vaclav Smil ("the professor") and others in the oil & gas business have been trying to point out is that most of the planet has not had anything close to the intensive exploration that the United States' lower 48 had gone through when Hubbert first shared his magic curve with the world. They also find Hubbert's "discovery" of a perfect bell curve evidence of how little he understood the "erl" business.
Global Reserve estimates are like CBO projections of future deficits - very big numbers that have only political meaning. "Proven reserves" - the amount of oil and gas that a company knows is there under the ground because they have verified that it - never go out more than 2 decades of current production. The reason is very simple: "proving" that the stuff is there (as opposed to simply pumping it out of the ground) is the major variable cost. This is why the pond analogy is all wet (rim shot, please!). The size of the pond is a function of the amount of capital and ingenuity people are willing to put into the discovery of new reserves, and the present value of any discoveries they make.
Hubbert's Peak as a theory is analogous to a professor from the business school measuring Wal-Mart's inventory against its revenue history sales and "discovering" (sic) that the Walton brothers were running out of peanut brittle. The Walton brothers were (and measured against historic sales) always will be running out of peanut brittle. Hubbert's "methodology" is an accounting truism about any business that has an inventory; it's called the inventory to sales ratio.
I once asked Buster Turner about Hubbert. Buster had an advanced degree in petroleum geology from the University of Oklahoma, and his best fishing buddy was the State geologist who was a full professor at I.U. He was not a man who scorned academic learning. Quite the contrary. But he thought Hubbert was a perfect example of academic arrogance, what he called "the damned professoriate." Hubbert, he said, didn't even understand how much the tax code had favored finding and pumping oil and gas out of the ground in the domestic United States instead of exploiting overseas reserves. As Buster put it, "Congress had been sending everyone in the oil & gas business a telegram for 50 years that said 'Drain America First."' And so they did.
Kevin Bryant adds:
You put your finger on the key issue it seems to me, moving from the theoretical to the practical. Enlarging the pond requires capital. Investing capital requires appropriate risk/return. There's a reason there haven't been any super giant oil fields discovered in the last thirty years. All the low hanging fruit has been picked. Further discoveries will require significantly more investment relative to output.
Again, Canterell and the tar sands are evidence, in my opinion, that further discoveries will be found only after significant time (I understand several years will be required to bring the "new" Canterell discovery to production if further tests bear out its potential) and expense. Otherwise, neither project would be as seriously pursued given their less than ideal economics.
Whether or not oil depletion is decades away or centuries away, the costs of exploration and production are likely to increase dramatically, which points to higher oil prices over the next decade.
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