The idea of systematic trading was not generally accepted 10-15 years ago. Markets were mostly viewed as efficient at that point. Or mostly efficient and any excess returns were just a compensation for risk taking – still efficient in a loose definition of efficiency. Today, trading systems are everywhere. Systems are now called "indexes" or "smart beta". Different strategies are now called "factors". Is 2/20 fee structure going the way CD, Dodo, floor broker, etc. If outperformance can be replicated by some "factors", who needs an expensive trader/manager?

Peter Pinkhaven writes: 

"Strategies that have reasonable sharpe ratios are usually cyclical" - Asness

I believe AQR were one of the pioneers of the recent systematic factor investing.

Bill Rafter writes: 

The automatic trading systems make the markets more efficient and more liquid. They are not predictive but extremely efficient in their reactivity. What the spec should do is view that as an advantage rather than a problem. It would only be a problem if he were a scalper. There is a very good solution to this for the spec (professional or near-pro), and it revolves around knowing which games to play and which to pass.

There will certainly be some professional specs who outperform, and they will be worth the fee. However that fee may continue to be 2&20 on the basis of value, or it may work lower for any number of reasons. Full disclosure: "someone we know" charges 1&10, as they want to keep clients forever rather than have the fee level be an issue in the future.



 Regardless of who wins this election, this market is going to rip to the upside — and I can be quite certain of that without even looking at the numbers, just the very tentative nature of nearly everyone around it. I've smelled this dish cooking before, and so have a lot of folks on this site. I don't know who is going to win this, but I do know that a 500 bln stop (not even flip) in the hemorrhage of balance of payments translates into an instant 3% GDP growth, and the multiplier effect on that puts us at 1965 growth, or even Truman-era growth. I was fortunate, in the 1980s and latter half of the 90s, anyone who showed up on time with their shoes on did pretty well. I had some lucky breaks too, which didn't hurt (and, as I have said repeatedly, and bears repetition for no one's sake other than my own perspective — "Anything that I may have has been given to me.").

But nothing has gone anywhere since the Spring of 2001. It would be wonderful to see growth in double digits, or just robust, 80s-90s style for the morass of all these millennials. People teasingly refer to them as "Snowflakes," but I have proactively and of my own volition gone out of my way in the past since 2007 to get into their heads, to work alongside them — not your typical snowflakes but snowflakes of all varieties. For all the negatives said about these kids (which I do not disagree with!), they are a much harder working, industrious, adaptable and far more pleasant gang than we boomers were. And for exactly them, I hope they get a break here and get the the change they deserve, and the economic growth they can use.

Stefan Martinek writes: 


The whole 2014, maybe the first part of 2015, you mentioned multiple times the issue of liquidity, the risk of a huge crash, structural liquidity problems, ETFs, etc. Do you consider all that is over? I always thought that the trend in equities (from 2009) will take some time to reverse, that there will be some chopping on the top before the next up move. I never tested this, but the chopping for another 1-2 years would look proportional, beautiful, expected… Of course growth will resume at some point. I thought that maybe market needs to take back some easy money generated in the last decade before going forward.

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

A few observations on this thread.

First, perhaps because of its nature, Dailyspec tends to look for the cause of many social phenomena in financial terms. In our discussions, Mr. Haave suggested "that while the Southern states get more benefits those benefits go predominantly to the minority that votes democratic." Mr. Aiken's thoughts illustrate exactly why: "NY and IL are 'red states' outside of NYC and Chicago, respectively…" I can't speak for NY, but "ethnic demographics" are the key driver Big D majorities in IL…I have no idea how to quantify, or define, the effect of "cultural indices."

Mr. Hauser added a vital insight in suggesting that "many elderly move South in their retirement years" and, by extension, while their benefits add to the states' totals, it does not necessarily translate into democrat votes. I am one of those "expats" and can say with some certainty that we have had a marginal impact.

But several very important issues are either overlooked or avoided to explain why these states remain in the red column. First, and most important, many in the current (and, more than likely, continual regime) have quite boldly and heavy handedly attacked the religious foundations of many individuals in these states…certainly enough to swing the vote.

Second, gun control is no minor issue. Its rare to find a resident in my part of the state who doesn't own both a shotgun and a deer rifle…their purposes, though, are concentrated on bringing down consumable game and/or eliminating non-human varmints. Though many own pistols, their numbers are dwarfed by the many in our larger cities who use them for quite different purposes.

Third is education or, more specifically, the make-up of the curriculum and the content of the mandated text books. Many of today's parents and grandparents are now, after a significant amount of published and broadcast news, aware that they have received a less than adequate education. When school prayer was outlawed they were upset, but, over time, grudgingly came to accept it. However, when the study of Islam was made part of required courses, things became (and remain) a point of relentless debate.

Other points of contention which aren't appreciated outside the immediate area, but which lead many to the red side of the spectrum are the "elite" dictates discouraging, eliminating, or outlawing the Confederate flag, tobacco farming, soft drinks, fried food, salt, and "dipping."

Individually, these may seem to be trivial matters and, in many cases, "settled issues." Big mistake. Taken together, these represent stark examples of big government going well beyond its mandate. It took the Tea Party to underscore this and galvanize the voters…not just here but in other states as well. The current Democrat platform offers them nothing of substance and can do nothing to alter this situation.

Will things change? Sure they will. Despite a growing number of home schoolers and charters, an overwhelming majority of young students remain classroom captives in a system that has essentially replaced much that shaped western civ with new age agitprop.

But there will always be a remnant and as surely as all grand socialist experiments fail, this, too, shall pass.

Andy Aiken responds: 

It's tricky to quantify in toto, but consider a simple variable: married vs. unmarried. There is a stark difference in party ID and voting behavior between the two subgroups, all else being equal.



Say that you have a yearly goal of 40% and you achieved in 7 months, or that you have a monthly goal of 10% and you achieved it in 11 days. Do you stop trading at this point? Or do you continue trading thinking the luck is on your side at the moment? Or do you adjust your goal and continue trading with the new goal?

Cheers, Leo

Victor Niederhoffer writes: 

The market will sometimes go much below your goal and to even things out you have to make as much as you can above your goal. Furthermore, the market doesn't care whether you've achieved your goal or not, it will always go its own way, and if you can make a profit on an expected future value basis, you should go for it. Luck is random, but the skill will persist. Apparently you or a colleague has it. Don't throw it out.

Andrew Goodwin writes: 

Your answer may rest in the structure of your money management operation. If it is a hedge fund structure, then heed the following points made in a post on the hedgefundlawblog.com. If you get behind you must know how you will deal with the moral hazard. Since you are ahead greatly, then your incentive is to take the money unless you know with some certainty that you cannot fall below a high watermark and will likely increase your gains.

1) The management fee, over time, usually does not generate enough income to operate and the profitable traders expect bonuses even when the overall fund loses.

2) The winning traders will leave to other firms or will start their own if there is no performance fee gathered to pay them.

3) If fund performance goes negative then high watermark provisions normally go into action. This can lead the manager to swing for the fences or simply close shop.

4) The wind down of the fund can deplete the investor assets and lead to general price markdowns of holdings especially if others had similar strategies and exposure.

5) The fleeing investors will enter into a new fund with a new high watermark and start the process over again.

Here is where the game gets interesting. The author suggests creating exotic option outcome provisions that he calls "Modified High Watermark."

These include A) Reset to zero under certain circumstances. B) Amortize the losses over a period so that the manager can still earn some incentive fee. C) Create a rolling period for the high watermark so that after a time the mark level drops.

His modified high watermark solutions might keep the manager from swinging when the performance fee looks too distant and might keep genuinely unlucky managers around until their skill manifests itself in due course.

Nigel Davies writes: 

There's a case for reducing leverage as one's account size increases so as to reduce the 'risk of ruin', and for some this might be done in a very systematic way. Another question is if there's a point at which one's financial goals have been achieved, especially if one's dreams lie elsewhere. 

Bill Rafter writes: 

You did not specify if your annual goal of 40 percent is based on analysis that suggests a 40 percent return is the mean or maximum. Let me assume that the 40 percent is the maximum annual gain you have ever achieved, if only as an academic exercise. Thus the 40 percent is your quitting point based on perfect knowledge of a particular system.

How frequently have you been calculating your forecasts (or inherently, your position choices?) As was learned from the Cassandra Scenario, "that more-frequent forecasting is inherently profitable, even more so than some forms of perfect knowledge." So:

(1) If 40 percent is your mean annual gain, then continue to trade at the higher level. That is, if you started at 1000 and now have 1400, continue to trade the 1400. Obviously it would also be good to shorten your forecasting period. (2) If 40 percent is your maximum expected gain, then pocket the 400 and start over trading with 1000. Shortening the forecasting period is not a given in this case.

Phil McDonnell adds: 

Let us assume the market has a normal distribution of returns and that the probability of making a 40% return or better, at random is 15%. Then if you decide to take all profits at the 40% level then your probability of a 40% gain will double to 30%. This result follows directly from the Reflection Principle.

The above assumes that your returns are random and implicitly assumes that you have no ability to predict the market. To the extent that you can predict then you should make your decision on your current outlook and not on any arbitrary price point like 40%.

Gibbons Burke comments: 

It seems to me that one should be disposed to let the markets give you as much as it wants to give you without putting artificial limits on that phenomenon, but that practical limits should be enforced on how much lucre it can remove from your wallet. Is more return ever a bad thing, assuming that the distribution of returns is not serially correlated? As our gracious host has noted, the markets have no idea how much money you have made or lost, so the idea of reversion to the mean on an equity curve makes no sense in the same way that it makes sense for market prices which are making repeated excursions up and down seeking the implicit underlying value of the thing (the ever-changing "mean" to which the market is always reverting.)

So, setting a goal to achieve a 40% return seems a reasonable thing to do, but I submit that this goal should be accompanied by the qualifier "or more" and be willing to let a good thing continue.

Regarding the 'limiting losses' idea, in the Market Wizards interview with Jack Schwager, Paul Tudor Jones admitted to having risk control circuit breakers in place so that if he ever lost more than x% in a month he would shut down trading for the remainder of that month. Limiting and rationing losses in ways such as this seem like a reasonable discipline if one is going to set limits on how the market will affect your stake.

An old floor trader's trick I learned while reporting on the futures pits is that if a trader enjoys a windfall gain on a trade, and reaches a pre-figured goal (or more), he takes half the position off the table as a positive reward for being right and taking action on that conviction. Leave the rest of the position on to collect any further gain which the market might want to provide, but he raises the stop to break-even for the remaining position (not counting the profits already taken off the table) in order that a winner would not then turn into a loss. If he stop get hit, he still has half of a windfall gain return in the bank. If the market continues in a favorable move and another windfall gain is realized, the process can be repeated.

This tactic has an anti-martingale character which some more bold traders might object to.

All these thoughts are mostly elaborations on the first two fundamental rules of trading: 1) let your winners ride, 2) cut losses.

Stefan Martinek comments: 

This loss avoiding behavior was well researched by Paul Willman and others. It is observed within traders of all levels approaching a bonus target; cutting off is generally viewed as irrational and Willman discusses how to adjust incentives to get a trader back to risk neutrality. Which reminds me more general but relevant quote from W. Eckhardt: "Since most small to moderate profits tend to vanish, the market teaches you to cash them in before they get away.

Since the market spends more time in consolidations than in trends, it teaches you to buy dips andsell rallies. Since the market trades through the same prices again and again and seems, if only you wait long enough, to return to prices it has visited before, it teaches you to hold on to bad trades. The market likes to lull you into the false security of high success rate techniques, which often lose disastrously in the long run.

The general idea is that what works most of the time is nearly the opposite of what works in the long run.



 During yesterday's Yellen testimony, a Senator asked a profound economics question that we should all be considering:

In essence, he probed Yellen whether the sole effect of monetary easing is to shift forward consumption and investment–that's it's all about timing–and that after nearly a decade of ultra-low interest rates, whether all of the forward consumption and investment had been exhausted.Yellen somewhat demurred–acknowledging that economists agree that there is a shift, but that there are other lasting effects–notably in the housing market.

I was surprised by Yellen's response, especially with respect to investment (not consumption).

Do businessmen lower their hurdle rate on investment based on the market cost of capital? When companies issue new debt and buy back their stock is that an illustration of this effect? And if a company is planning to make a capital investment, does it look at the valuation of its stock as one element of the Capx decision. For example, if a company is considering building a new plant, surely the ability to finance at 3% versus 9% affects the decision…as does the implied cost of capital in its stock price??

Perhaps the counter argument is that this ignores the final demand for goods that come out of the new plant. And it ignores the potential overinvestment and malinvestment that will eventually occur when interest rates are "too low".

But if the Senator is right — then it's not going to be pretty…

Stefan Martinek writes:

Ludwig von Mises ("Human Action") would agree with the Senator:

Resource misallocations => liquidation.

Alan Millhone writes: 

whether the sole effect of monetary easing is to shift forward consumption and investment — that's it's all about timing — and that after nearly a decade of ultra-low interest rates, whether all of the forward consumption and investment had been exhausted.

From the cheat seats, this has been the theory of choice for a while. Of course cheap financing moves future consumption into the present. The problem is that every form of consumption has absolute limits unrelated to cost: We only really need one house, and moving is a pain no matter how cheap the financing is; we bought two new vehicles in the last two years, and my prediction is that we will not be in the market for another one for a long time, no matter how cheap the financing is; if Macy's puts shirts on sale for 50%, I might go buy some, but it won't fundamentally change the rate at which I consume shirts.

Add in the profound effects of China+globalization (and India and other countries as well) as an inflation sink, a strong downward vector on global wages, and a powerful upward vector on productive capacity, and it doesn't seem surprising at all that we are kind of muddling along. The real action globally is the chance for poor people to get less poor. The next big phase will be China and India developing and expanding new patterns of consumption.

Eyeballing the data, M2 fell by about 30% from 1929 to 1932. The Bernank's pledge was that no matter how bad things got in the Great Recession, a contraction in money supply was not going to make things worse, and the Fed kept that promise, as far as I can tell, though some argue they acted too slowly.

So here we are with negative interest rates, sub-replacement birth rates, seemingly endless productive capacity, the interweb allowing the cheap utilization of all sorts of physical and human capital…what's not to like?

Question: When a company buys back the last share of its stock, who then owns the company?

Stefan Jovanovich writes: 

A corporation does not legally exist without shareholders. The last share of its own stock a company can buy is #2. I have often wondered why Buffett did not follow Henry Singleton's model and use B-H's cash to buy in shares when the stock price was down and keep doing it until he is the last shareholder standing. The snarky explanations I have ever come come up with are (1) buy-backs would screw up his successful tax evasion use of the state insurance laws regulating accounting for reserves, and (2) he has calculated that saving the cash for large acquisitions is a better use of his talents, since he is not a particularly gifted trader.

Gregory Van Kipnis writes: 

Had I been Yellen and asked the question and felt free from political retribution I would have answered:

It's not so much a question of bringing forward as it is increasing the set of investment and consumption opportunities which would exceed the hurdle rate (cost of capital in the case of investment) and consumer time preferences (the marginal rate of substitution of present and future consumption). However, nothing occurs in a static environment where only one variable (interest rates) change. If pessimism, risk, and the profit margins associated with investments are worsening at the same pace as interest rates are declining, there will be little positive response from lower interest rates. Take note, however, that economic activity would be a lot more depressed were interest rates not lower. As for the outlook for confidence and profit margins much of that is being adversely impacted by fiscal, administrative and political policies.



Vigilanted and Palindrome cronies in S. Hampton trying to force world state by shorting stocks.

Stefan Martinek writes: 


Andy Aiken writes: 

The event guaranteed to elect President Trump is a break in the U.S. Stock market that hits the better people in the 401k. The hermit says the only reason I like his counting is because I share Queen Milo's hope that the Donald will beat the hag. He may be right, but I think the recession is what will make the hermit's numerology come true. If there is one thing Trump's election will kill, it is the one world currency order.



When we research strategies, there is a need to measure performance. Some techniques like volatility targeting tend to improve more the equity based measures (e.g. Sharpe, Sortino) but damage or not improve the trade based measures (e.g. Profit Factor, Expectancy). Some techniques like term structure used in asymmetric sizing tend to improve more the trade based measures. Is there any clear argument for or against equity vs. trade based performance statistics?

Rocky Humbert writes: 

Ed Seykota was fond of saying "Everyone gets what they want out of the markets."

That's an elegant way of saying that every investor has their own utility curve.

So an answer to your question is it depends on what portfolio/trade parameters that you are trying to maximize and minimize. Each of the approaches that you describe involves some sort of a trade-off. Academics will talk about optimally efficient frontiers, but for practitioners who are in the markets for the long run, I believe it's a function of what you and your investors want to achieve and most importantly, maintaining the discipline to consistently apply the tools that you mention.

There are many paths to heaven. There is no free lunch.

Bill Rafter writes: 

We prefer equity stats. Our primary metric for longer term research is (Compound Annual ROR)/(Max Drawdown). For example, the equities markets depending on the period chosen tend to have a CAROR in the single digits, while having max drawdowns of ~55 percent. With work and diversification you can invert those numbers such that the ratio is greater than 1. Most of your success will come as a result of reducing losses.

In theory one might argue that if you take care of the trade stats, the equity stats will take care of themselves. As in, fight the battles and the war will take care of itself. This is most exemplified by HFT. If that is the trading time frame of your choice, then by all means go with that. However it is hard for the individual to compete in the HFT framework, meaning that you will probably have to lengthen your trading, gleaning greater gains, but also larger losses. Eventually I think you will come around to preferring the equity stats. But your choice is going to be subjective or trading-plan-specific, which agrees with Rocky's every investor having their own utility curve.

anonymous writes: 

The conception of Seykota's quote as a utility curve is Rocky's. Seykota might have been making a point about market psychology more akin to a Deepak Chopra quote. That's not to say that Seykota did not make money trading. My sense was that his idea about everyone getting what they want from markets applied to those who might have hidden motivations in things other than in optimized financial gain according to a risk adjusted measure.



Recently I found some interesting papers on SSRN by Hilary Till . She gets 54, 65, 81 uploads. No joking. And then there are some really superficial papers about momentum and they get 80-120k uploads. Those are at the top in uploads. It is interesting. There is definitely a momentum in cheap momentum papers on SSRN.



What is the difference between the "smart-beta" index built around "momentum factor" (offered by Russell or some other index provider) and a trend-following CTA? It seems to me like a lot of smart repackaging (trend-following is now called momentum since more academic research is about momentum, trading is now asset allocation, etc.)….

Aside of fees, of course :-)

Ralph Vince writes: 

All trading systems can be represented as indexes. (even your simplest, go long here, flat there, short here, has aggregatge weightings of 1, 0,1 on the various positions — cash always 1-position weight).

All portfolio models, can be represented as indexes.


Trading Systems ~ Portfolio Models ~ Indexes (~ representing "equivalent to")

It's a matter of packaging.

And further building on this edifice scratched in the walls of my darkened cave….

And all long positions ~ short put + long call of same series.

And all of this occurs within the hyaline manifold of leverage space, which readily explains things that are often not so evident on the surface (such as why a short etf will have a long-term downward drift, as well as all leveraged ones, just as with any form of portfolio insurance) and on and on and on and on.)

Rocky Humbert writes: 

Ralph articulates this well.

I would add one point:

We know as a logical syllogism that the overall return from an entire market (to all participants) is the overall return from an entire market. Putting aside the mark to market paradox, if I were the sole market participant and I owned the entire market, then my return would be the intrinsic market return (i.e. cash flow, profits, dividends, etc). And if there were two market participants, then the intrinsic return is shared between those two participants. Again, mark to market paradox notwithstanding, just as it is impossible to squeeze blood from a stone, one cannot produce a total return that exceeds the intrinsic market return. The only question therefore is how to allocate the return — which, beyond the intrinsic return, resembles a zero sum game. (Some people here call the intrinsic return, "drift", but it is really dividends, retained profits, etc.)

An academically pure index must capture the entire market's intrinsic return. And it would do that by owning the entire market capitalization of that market. The S&P500 doesn't do this exactly — the index owners exercise nuance and discretion — and that process might give some opportunities to the smart-beta crowd. That the S&P is market cap weighted further gives rise to the mark to market paradox (i.e. the starting point when one purchases the entire market cap).

But if one could actually purchase a piece of the entire market on the day of the market's creation — and own it until the end of the world — that investment will produce a return that will, after taxes and expenses — beat holding any given smart beta strategy for the same duration. This is a purely theoretical point — because during any given holding period, some particular smart beta strategy will surely outperform. Again, it's a mark to market issue. So the goal is to figure out which one will and which one won't. (Assuming that this is possible!)

So yes Virginia — there is a pure index. But it is theoretical ideal.

anonymous writes: 

I used to trade and develop "smart beta" strategies back at the fund.

I don't think there is an established "this is smart beta and this is not," but I can tell you as to what people expect. The momentum strategies are a bit different than typical CTA trending strategies (not using crossovers for example). Instead momentum is tracked by other measures such as relative performance across sectors and going long/short the best/worst performing ones.

The implied idea of smart beta, which is not exclusive to CTAs, are the other benefits of using these strategies amongst others in a way that utilizes portfolio construction or a dynamic weighting strategy (like monthly rebalancing on vol).

The goal with smart beta is to not produce alpha outright, but to accept that the majority of alpha has been "sapped" and you are now using diversified strategies that have a known cyclical alpha. This is where you get into gray area but I differ the two by saying:

alpha means the sharpe significantly deteriorates as others discover the method smart beta means the sharpe has already significantly deteroriated, but because it has, you can more easily predict the regimes in which they work/don't work. For example, AQR's paper: value and momentum everywhere discusses the idea that momentum (continuation) and value strategies (mean-reversion), tend to have negative correlations, albeit both strategies have lower sharpes (0.4 to 0.7).

anonymous writes: 

Assume, all flows as dividends etc produce an intrinsic market return of zero over some point. Trader A loses 10. Trader B gains 9 (dont forget the vig). Ok till this syllogism its a zero sum game

A sold at 100, B bought at 100.
A stopped out at 105.
B stopped out at 95.
There must be a C or a CDE.. and so on and so forth.
Still sounds like zero sum. 

But if over a length of time some stay in the game, majority keep dropping out. Then it becomes a series of zero sum games.

Next, If A,B,C,D,E…. et al become very large numbers then its a zero sum game between those who stayed in the game up to the point the non participants came in. This also explains the Lobogolas.

Market therefore is a variable sum game. People vary their exposures, they vary even their presence for prolonged periods of time. No one rides an investment bus permanently the way sage does. Normal people buy stocks with an "intention" to sell at some point.

The drift in equities is explicable by a fact that it is the only asset class where reinvestment in growth occurs. For Indian equities I have had calculated in the past it mimicks the curve of (1+GDP growth)*(1+inflation). Perhaps true for other markets too. Given in the long run supernormal profits dont exist, its the ability of businesses to pass on inflation to their customers that produces the drift in their cashflows and thus stock prices. 



Information sometimes goes that the hedgers are net winners in a commodity game. They know their industry, they have great analysts, they have staying power, etc.

The opposite argument is that the large speculators having positions against hedgers are the net winners (at the end, they "sell" insurance to hedgers and should be compensated for such economic activity, on a macro scale).

Is there any evidence whether hedgers are taking money from the futures commodity pot or subsiding the game?



My take from eyeballing this chart of the day about the gold market: one should prepare in advance for buying opportunity. Chart is longer-term Bullish, as most asset charts are LOL. Trick is: gold bugs are getting progressively more rattled by the corrective phase that commenced 2011. More often than not, the nadir of such correction will trade very quickly - leaving the unprepared behind. Not sure one will be able to buy size on final low (as the algos are very adopt in frontrunning both ways). So if one is looking for size, and just needs to fine-tune timing, one should explore all kinds of venues. Gold equities will be the most leveraged Bullish bet. But the real deal is physical gold (stored under your control). Eventually, when Gold is attractive for extraordinary financial panic reasons - physical will outperform by leaps and bounds!

All this being said, the final low print will likely occur deep in three-digit territory. Any initial Fed tightening will hit all assets hard.

anonymous writes: 

Seems to me like a test of support at $1000 round, which was the 2008 crisis year high, might be in the cards one of these days.

Stefan Martinek writes: 

Re: "Not sure one will be able to buy size on final low (as the algos are very adopt in frontrunning both ways)"

I do not understand what algo story you are taking about. You want to buy a multiyear low and then you are afraid to miss the last tick on a decline? There will be plenty of time. Days, weeks, historically even decades (1980-2000). Who cares about "algos". I cannot even comment on Elliott voodoo. This flawed concept cannot be falsified, at the end it is always right regardless the number of counts. We all know what this implies.



 On my last haircut before moving, I gave my regular lady a $100 tip on a $17 haircut (applause line here?). That small gesture brought her to tears. She is a very interesting older woman. I've enjoyed talking with the past few years. She knew I worked in investments/trading and asked if I had any ideas for her. I asked about credit card debts and she told me she just cashed in 25K of an IRA to pay down 25K of credit card debt, yet already had accumulated 2K since then and was getting in the hole again. I might invite her down to do some murals in my kids room, and perhaps do some studies on trees (She is an artist who made a living cutting hair for the last 40 years).

The point is (perhaps? At least the relevant one?) is the deadly financial problem of never having working capital that provides the flexibility that keeps one off the spike of usurious interest.

This lady had been sold on long term investments (by her branch XYZ big box bank) in high fee mutual funds with perhaps at best a 5% yr expected value over the long term, while paying off 25% interest rates on credit cards. The scams run on the lower middle class or working class are obscene.

And it is not income. Clearly if these folks can pay these obscene high interest rates, they can afford much more than they have. The problem is that they never understood the idea of having "working capital". I told my friend that her best investment is at least 6 months of living expenses in the bank. As basic as it is, and at such a low margin for error that standard that is, for many it is an alien concept. Her recent issue was a car repair that blew up her budget and started the credit card problem again. With no working capital plus compound interest against, it is like a giant pit metaphorically with wood spikes and lions at the bottom to gobble one up.

So in trading and investing, how can we use this idea? Victor has taught "never get in over ones head" as one of the key tenants of speculation. So how do we manage our cash in our speculations, investments, life's "issues" to have the flexibility to seize opportunities and avoid pit of being bent over a barrel–while still getting a solid return.

Scott Brooks writes: 

The problem is deeper than that.

The people that Ed is referring to don't have the mentality to accumulate wealth and get rich. They are sold on the "here and now" mindset. They go into debt to satisfy the here and now. Something will always come up that will prevent them from succeeding. The only thing they are really good at is coming up with PLE's (Perfectly Legitimate Excuses) to justify their failures.

They are defined by their failures.

anonymous writes: 

Especially with respect to this site, I would wonder the data and testing behind those assertions. Otherwise, one might consider them to be presumptive, elitist, and uncharitable, with mean-spirited implication. But for the grace of god….

Ed Stewart writes: 

"presumptive, elitist, and uncharitable, mean-spirited"

Yes but who cares. I'm guilty of most those things at most times. Is time preference the essence of trading? That might be a more interesting question vs. my original one. Can it be quantified? I think so, as a hypothesis generator. Does it work better than other thought models?

Russ Sears writes: 

Sorry, I disagree Scott. Ed is correct, it's a matter of education and coaching. Have a plan, believe in the plan, stick to the plan.

The average working poor Josie is not a loser. It's the average bank has learned they are more valuable dumb and paying fees than smart with small accounts. The stats say that the fees are several hundred dollars per person in the USA. So some are paying several times that. The banks have the average poor working single parent or mom in a snap trap that they can't figure how to unsnap and lift the door.

The first thing I tell kids is that you need a minimum of $1,000 in emergency cash preferably $2,000. Have a garage sale, stop buying lottery tickets, no gambling, stop buying new clothes, stop cable, and stop smart phones, etc until you have that emergency fund. Also budget, if you can't fix the budget to the pay, downsize housing, get roommates, no car, bus, pay for car pool, whatever it takes to have a workable budget. Then save for the 3 to 6 months expenses in a cash account ready for a big expense. Only then should you invest.

Most people in this problem don't have anyone they can trust to give them the advice and perhaps the tough love they need to stop living in denial. The truth is the banks want the poor.

What does this mean for "investors". Frankly I think most investors have it wrong. It's not so much managing your risk as it is managing your cash flow first, then manage your risk. You can take a lot of equity risk if your investment horizons 20 years out.

Also the lesson to investors is just because someone is in the best position to give you advice and would make some money off you if they gave you that advice, it doesn't mean they will give you the advice that's in your best interest when it conflicts with their best interest. Their best interest is CMA (cover my …) by silence or sin of omission. Then it's to make more money by selling what gives them the most profit to "cover" you like payday loans.

anonymous writes: 

The thing I practice (and I don't know if it adds any edge that can be computed) is to always take some off after a good run. No mater what, be it trading, investing, bonus, etc. Never spend it all–or even most of it. Put it away for when SHTF, because as day follows night, it will…

Andrew Goodwin writes:

A major part of the problem is the thinking that makes the credit limit on credit cards equivalent to ones own money.

For my part, I will never willingly stop at a gas station that has two prices for gasoline with one higher for the credit card user than for one paying cash.

In a world where there are card rebates on gasoline, what is the point of acting responsibly with credit when those who did not act responsibly get subsidized by those who did. The dual pricing also serves to support a cash economy against the public interest.

Peter Grieve writes: 

I feel that I am unique on this site as having been in this hairdresser's situation for most of my life (Hello, Peter). Obviously this is not due to a lack of economic education or upbringing. I feel that the factors include a lack of skepticism regarding my own appetites, a lack of faith in the future, a certain immediacy in response to the world. These are traits associated with immaturity, to which I confess. Of course this leads to tremendous inefficiencies, even when viewed from a purely hedonistic perspective, but it does have its compensations.

I do not regard Scott's comments as elitist, presumptive, uncharitable, or any of that baloney. On the contrary, I find the the use of the word "uncharitable" to be condescending. I do not feel that people in my position are a fit object of charity.

Everyone has their irrationalities, and they are often incomprehensible to those who do not share them. Scott's words are simple, honest truths, which many people (including me) would benefit by internalizing to a greater degree.

Stefan Martinek writes:

It is good to have an emergency cash for at least a decade; locked, untouchable for trading or similar. The rest can be at risk. And after MF Global steal from client accounts (is Corzine still free?), I think it is prudent to keep as little as necessary with FCM. In case of a brokerage failure, the jurisdiction matters (Switzerland is preferred, the UK is too slow but ok, then Canada, and the last option is the US broker).

Ralph Vince writes: 


I entirely disagree; emergency cash has a shelf life which is very short, and our perspective warped as we are speaking in terms of USD. Being the historian you are, you know full well how quickly that cash can be worth nothing. (And again, a many of our personal experiences here would bear out, money is lost far quicker than it can be made).

A bag of air on hand is good for one breath.

People are taught that "saving" is virtuous, borrowing a vice. I would contend that we have crossed to Rubicon in terms of the notion of stored value — no more able to contain that vapor than we can a bottle of lightning. The circulation brought upon by a zirp world, turning all those with savings into the participants at a craps table, the currency being used the product of a confidence game, among the virtues to be taught to tomorrow's youth is that of creating streams of income — things that provide an economic benefit their neighbor is willing to pay for, as opposed to a squirrel's vermiculated nuts.

"Stored value," is a synthetic notion we have accepted and teach as a virtue. It has no place in nature, it is a synthetic construct, one that is not scoffed at in the violent, life-and-death world of fire and ice. Young people need to be taught the fine distinction between the confabulation of "storing value," and that of using today's fruit to generate tomorrow's.

Stefan Jovanovich adds: 

From the other Stefan: I agree Ralph. "Stored Value" is another part of the economist dream that platonic ideals can be found. Money is and always has been one thing: the stuff you could voluntarily give to the tax man that would make the King find another excuse for throwing you into the dungeon. The gold standard did not change that; it simply gave the citizen a chance to make the same kind of unilateral demand on the government. It is hardly surprising that the fans of authority and "government" hate the Constitutional idea of money as Coin. How can you have a permanently elastic official debt if the citizens can ask for payment in something other than a different form of IOU?

However, Stef does have a point. Having a hefty cash balance is a wonderful gift; it gives you the time to figure out your next move. The sacrifice is the absence of leverage; the gain is having literally free time.

Scott Brooks comments: 

There are a lot of companies out there that take advantage of them and the bad advice they were given from their parents. Banks certainly do. Then you've got insurance companies and brokerage firms selling them crap products as well.

But that doesn't hold water in today's society with Suzie Orman and others like her being nearly ubiquitous on the airwaves and net.

These people live beyond their means. Plain and simple.

Yes, they lack education, but even with education available, they don't take advantage of it. They are just doing what they were taught as kids. For far to0 many of these people, as long as they've got enough money for their 1-2 packs of cigarettes/day and their quart of Jack/week, they go and live lives of quiet desperation, hoping that they don't lose their jobs and are lucky enough (i.e. like not spending money on stupid stuff is "luck") to pay off their debts by the time they are in their early/mid-70s so they can live out their remaining few years (if they even make it that long) on social security.

I know. I grew up with these people. I know how they think. But for grace of God (as was mentioned earlier), I might have been one of them. But for some reason, I was blessed with gray matter that works, and I saw the error of those ways, and I was able to get out.

Ken Drees writes: 

I knew a guy–lost touch with him over the years–who exclusively dealt with hairdressers and salonists. He sold variable annuities to them since these people had no retirement plans given to them from the salon owners. I believe in his mind that he was doing them a service–and I really do not know the quality of his products–but at a glance I saw them as mutual fund annuity hybrids that came from heavy fee fund families. He was a tall, dark and handsome gent and he would actually get entire staffs of salon ladies to invite him in after hours for a group meeting/financial planning discussion presentation.

He always said that business was brisk! 

Jim Sogi writes: 

When young friends ask me, how should I invest, I give them a simple asset allocation model based on ETFs or Vanguard and an averaging model. Invest x% of your paycheck off the top each time. Doesn't matter how much really.

Russ Sears writes: 

 Scott, since this is the DailySpec let us bring a little science into the discussion, even if it is social science.

Where we differ is not what is causing the hairdresser's problem. It is in what can be done about it that I differ. I believe you can coach people to delay gratification. I coached kids that never did homework before and got "D's" and "F's" during a summer and by fall the kid was an "A" or "B" student. You probably owe a hardy thanks to the coaches in your life.

Perhaps the greatest social science finding has been the "marshmallow experiment" done at Stanford. They did test on 600 4 year olds telling them if the child did not eat a marshmallow for 15 minutes after they left, they would get a second marshmallow. 1/3rd of them made the whole 15 minutes, a small percentage ate it immediately after the others had waited various amounts of time. They followed up on these kids several time in the last 40 years. Just about every way you can think of to define success was highly correlated with the time the 4 year old delayed gratification: SAT score, college/HS graduation rate, credit scores, long term committed relationships, contentment etc. And almost any way you can define failure was inversely correlated: jail time, high school.

The correlation was stronger than IQ, social economic status at 4 years old. In other words even the dumb poor kid that delayed gratification was happy/content/successful 40 years out. He may not be making much but he is happy with it.

For a humorous view of this experiment reproduced: Joachim de Posada: Don't eat the marshmallow! 



Currently I am researching price gaps. So far I must say it is a positive surprise in the flood of patterns that do not hold or are mediocre. What do Specs think about price gaps and what is your preferred game: going against the gap or with the gap?

Larry Williams writes: 

In my view, gaps are very helpful in trading as a sign of excessive emotionalism.

anonymous writes: 

Gaps are price zones with highest consensus and lowest struggle for discovery of price. When there are no buyers and only sellers without a contract traded price gaps down and vice versa.

Volume is a measurement of the struggle for discovery of price. Absence of volume then must imply minimalistic struggle for the discovery of price.

Yet, at the gaps, particularly in larger ones, there are debris of bad trades that have become bigger than the loss tolerance of over-intelligent traders. When prices return back to such gaps the "getting even" type traders provide the counter trend support / resistance, perhaps. 



There are arguments for and against the log returns in data analysis. Any preferences and why?

Alex Castaldo writes: 

The nice thing about log returns is they are additive across time. The log return for the year is the sum of the log returns for Jan, Feb, Mar… Also the log return is to a first approximation normally distributed.

The nice thing about the percentage return is that the % portfolio return is a weighted average of the individual stock percentage returns, weighted by portfolio weights. So for example if you have 1/2 your money in MSFT and 1/2 in GOOG, the portfolio percent return will be the average of the percent returns on these two stocks.

So when I work with portfolios I always prefer the percentage returns. When I work with indexes I work either with percents or with logs (especially when concerned with options, since option theory is all in terms of log returns).



This is an interesting summary on momentum with some references at the end (NewFound leases momentum indexes to S&P).




Success in the opening can lead to a weak middle game, and finally defeat in the ending. (Today in SPUs?)

The three pillars: playing much, suffering much, and studying much– these are the three pillars of learning.

A breakdown

Market and board players should not rely too much on the computer. Something new might arise and they might have to think.

Idiot savants

There are genius players who have a sixth sense but some of them do not have the other five (Sornette? The derivatives expert?)


Win, lose or draw, it's good to have friends. But it's especially good to have game friends. I've had some of them 50 year years (the spec list was started 18 years ago. How long will it last?)

A paradox

Checkers is so simple– it is difficult. Chess is so difficult, it is simple. (What is the simplest market, the simplest technique. The tall basketballer from Harvard who started with me liked to buy the open to 11 breakout in all markets).

Christopher Columbus

When you discover good moves on your own, you are likely to remember them. When you learn them by rote or the computer, you tend to forget. (Keep doing the hand studies. And follow the 3rd Contrivance in the art of trading. Keep half hour prices by hand. One has been doing so for 45 years. The bound books are all moldy in the former trading room)


The search for the right move during the game is helped by the research you have done before playing (read the 100 year old books.)

These are 10 of the 5,000 proverbs that Tom wrote for us during the 20 years he gave us lessons. He wrote 25 books, and always said that the book he wrote based on these proverbs would be his best book. He'd always look around wistfully after saying that: "the one thing I wished is that I married a girl like Susan". Then he'd shake his head sadly. "But if I had, I might not have written the 25 books."

Gary Phillips writes: 

Like my mother used to say, Mr. Wiswell's first quote gave me goose bumps.

Vince Fulco writes: 

How many times will we decide we need to focus on one position to the detriment of the successful mix reminding of the term "perfect is the enemy of the good"?

Stefan Martinek writes: 

I think perfectionism is dangerous. In trading it leads to procrastination. For example, we can view any system as 3-dimensional cube: (dim "a") p of winning; (dim "b") avgWin/avgLoss; (dim "c") number of opportunities. Retail traders usually love high "a". But high "a" usually reduces "b" (we can also inflate "a" by faster exits/targets pushing "b" down). But in case that one is lucky and finds something with high "a" and "b", "c" typically gets killed (valid also outside of trading). Less perfect models with lower "a" and higher "c" usually make more money on both absolute and risk-adjusted basis.



I was having a discussion of survivorship bias the other day which seems worth sharing in case others could expand:

An example of survivorship bias is when you look at an index composition today,
at this point in time. The stocks you see today are "survivors" and if
you then go and do some analysis on those stocks as, say, representing
the small-cap or mid-cap universe, you're ignoring the stocks that
crashed, i.e., you are showing a bias towards survivors.

An example would be: You want to study smaller-cap stocks over time,
so you get a list of the current components of the Russell 2000 and then
look up their individual price histories for the last ten years to
study volatility or return characteristics - you would be getting a
heavy dose of survivorship bias. To avoid the bias, you would have to
get a list of the Russell 2000 components from 2005 and work forward
from there.

I think you can generalize survivorship bias, for a study over some
particular time period, as using a selector or filter from the end of
the time period. Indices are selectors/filters over time, so you have to
use the version that existed at the beginning of the time period. In
that case the study can become a test of the selector/filter as a

Steve Ellison explains his solution:

I have maintained a database of what the 2000 or so stocks included in Value Line were since 2005, including the dates each stock was added or dropped. My effort has flagged a bit recently because I seldom trade individual stocks.

Stefan Martinek writes:

I think indexes are the best to avoid this bias if you trade indexes directly. If you research individual stocks you have to deal with this bias and use some good DBs not indexes.



 "James Simons Interview- Numberphile"

He changed his profession because of the St. Louis distributor.

Charles Pennington explains:

A helpful colleague alerted me that the business about the "St. Louis distributor" starts around minute 44:00. Short story is that Simons found himself the owner of a computer company of some sort in St. Louis, then was faced with having to have meetings with the "distributor from St. Louis", which he finds distasteful.

Stefan Martinek writes: 

Some interesting parts:

28:30: "Trend is an anomaly in data"

29:30: "There are no elaborate equations, some sophisticated math in the area of the last part – how to min. volatility of the whole"

It would be great to see a track record and run it against some benchmarks.

Paul Marino writes: 

Thanks for the video, Rocky.

Is it bullish or bearish that he wasn't chain smoking cigarettes throughout? Has he quit? I find it fascinating how people smoke when it doesn't compute with their life like doctors, firefighters, billionaires. 

Anatoly Veltman writes: 

It seemed half-way through Jim pulled something out of front pocket, and then (I speculate) came an editorial cut. Is your query due to personal experience? I, for one, wouldn't ask that on this site, although I was awestruck with the same thing in this clip.

I had the good fortune to sit on Jim's right shoulder during a five-hour (you immediately know it was ethnic Russian household) lunch. I was so uncomfortable because I haven't had one puff in 30 years so I asked, "Jim, I thought American males didn't smoke?" Jim didn't take more than two seconds to repartee: "you know, you're right on the whole, but the lower classes still do". Later he was less apologetic: "I just enjoy cigarettes too much to stop". I'm a little dumbfounded in this clip Jim credited his dad with bankrolling his investment debut. Can someone pinpoint the minute Jim commented on Madoff? I missed the sound bite.

Paul Marino writes: 

I had heard that he was a chain smoker for decades, still smoked as of last summer.

Not trying to demoralize him, I smoked for years myself, it is a tough habit to break, but in New York you're surprised by the type of smoker as I had mentioned earlier plus the city's war on tobacco, sugar, etc. At $13 a pack I guess you need to be a billionaire or doctor to afford to smoke these days here. 

anonymous writes: 

You could always tell when Simons was at a math department tea by the smell of cigarette smoke. No Smoking allowed in university buildings, but who is going to tell that to the guy who built the place?



 I thought it would never happen but it did. One person in this humble trading operation bought at a price, and the other person sold at the same price. Thus, we were guaranteed to lose, and the brokers were guaranteed to win. I suggested that if this were to be a template, we would be guaranteed to go bankrupt and the brokers would become infinitely wealthy. I would ask the brokers to send us a fish dinner to encourage us and reward us for this terrible thing, but I don't think they would get the drift of why it's so great for them.

Russ Herrold writes: 

Certainly, IBKR understands and matches quite intentionally 'crosses' in house at once, before ever exposing the net delta in position to an exchange. It is part of their disclosures

In designing my order management system I also set it so that it flags an exception event when short 'trading' positions, would cross against long term 'investments', and offers a simple journal entry to avoid the commissionable 'trip'.

Victor Niederhoffer writes: 

To say nothing of their ability to take the other side of trades when their customers are stopped out for margin. According to one list member, they proudly acknowledge this in their conference calls. And one often sees huge bids below the market when the market is down big, and assumes that it is such an entity on the other side. In all fairness, however, I know from others that they give you a warning of 2 seconds or so and you can forestall being stopped out if you get the wire for your new margin to them within that 2 second window albeit, you might have as much as 2 minutes if you receive the margin call in the evening when the banks are closed. 

anonymous writes:

Yes, they might consider handing out copies of "duel momentum" to all of their advisor customers, particularly the ones utilizing portfolio margining. 

Stefan Martinek writes: 

BTW, momentum made D. Harding (Winton, AUM ~30B; track record) one of the richest guys in the UK. (Harding on momentum) .The other point is that the "dual momentum" = absolute + relative momentum is used by traders since eternity, "discovered" by academics in 70s, and discovered again in 2014 by Mr. Antonacci. 



Trend days are the exception rather than the rule. We are looking for are rules, but is it possible to find the exceptions also? Trend days are something to avoid for mean reverters who get caught in a trend day or multiday trends. However, if one stays long all the time, its been found that a large percentage of the overall increase in value comes on a few days. Just playing the long side probably helps the odds in the long run. On the other hand, the big jumps in volatility and big moves on occasion are to the downside. The only thing I can see that sets up a big trend day is when buyers or sellers are totally outnumbered exponentially right from the open. Big up trends days can set up after big declines but its a matter of being positioned and hold long enough to catch the big trend days that can make your year. One must also avoid being caught the wrong way that can end your career. The Learned Professor posits the opposite: that fat tails are the rule and that the exception eventually swallows the rule. Statistically one must hold the defined period at the defined leverage to realize the normal expectation. My common error has been to try to beat the expectation which apparently is not possible over time. In conclusion, it appears that one can only follow the rule, not the exception. The problem however is in reality the actual variance has and will exceed the expected variance.

Larry Williams writes: 

There are 2 things that help define trend days.

First, they are hard to know in advance, but trend days (large ranges) almost always close at the high (up trend) or low (down trend) so best working strategy is to hold to the close if it looks like you are in a trend day.

Secondly, trend days are usually proceeded by small ranges and small open to closes.

Stefan Martinek adds: 

Once we are in a high range day, usually more is coming in the same direction (vol. clustering with a drift). To overcome the cost of trading, it seems that 3-5 days (bars) holding or some combination is preferred. Regarding the point below "Just playing the long side probably helps the odds in the long run.", it is maybe correct in equities. When we trade on a basket of futures, not just ES, eliminating short trades usually damages risk adjusted returns.



 I have often walked down the moving average street, but I like to look at what number for the average elicits buying so as you get near it, you can hope for a nice change in the distribuion of subsequent changes. I like to stop and stare at the amount that the curent price is above moving averages of different length and look at the expectations that follow various amount above and below. The changes in direction of the moving average have also been of interest. And the first advisory service I ever bought in commodities was called 'the cumulative average'. 60 years ago I bought it.

Ed Stewart writes: 

In 2012 I applied a 10 - 20 moving average cross to VIX trading product as an example showing the propensity to trend downwards in those markets, do mostly to the massive contango effects that were even more severe at that time - I also noted that every single MA combination worked in a wide range. A guy has continued to track that simple MA cross in XIV (inverse VIX etn), and it has continued to work, often much better than "sophisticated" multi-factor systems. I have had a great deal of luck trading the VIX futures with a combination curve slope, moving averages, and my preference for getting a period after a (seemingly) failed breakout of elevated volatility.

My thought based on this is that if one has reason to believe a market has a great deal of trend persistence yet timing might still be an issue, the simple MA approach seems like a good or reasonable tool. It's not the tool or technique itself so much but the features of a market that count and define if an idea or tool might work.

On the distance from MA idea, I like to do a similar thing but use mid-point of an X period range or a point like open, close, or other specific time.

Gary Phillips writes: 

"It's not the tool or technique itself so much but the features of a market that count and define if an idea or tool might work."

Good point. Any technical information and inferences made from using this or related indicators reflect not a primary but a secondary process that involves compliance of the indicators with fundamentals and/or a cognitive bias. However, indicators that are derivatives of price, track price changes; and, if there is persistence (the future is like the past) they inevitably end up contributing to the myth that they are predictive.

Stefan Martinek writes:

I think the best tools/techniques "learn" from the market and use the data features in some way (e.g. market specific level of noise, noise "memory", etc.). This is why I never use MAs or anything that has MAs inside where we arbitrarily via parameter selection force our views on data. Good techniques are usually adaptive and ask data what parameters are preferred now.



 Here is an article from the world of transport engineering. It's not too much of a stretch to apply something similar to observations and timings of magnitudes in financial markets:

Extract: "Why Buses Bunch at Single Stops"

Maybe you've waited at a bus stop for longer than usual, and your bus finally shows up. And then, immediately after, a second bus on the same route pulls up right behind. What gives? Why can't they stay evenly spaced to improve everyone's waiting time? Lewis Lehe provides an explanation in a small interactive game.

Two buses travel along the same route, starting off in opposite positions. They make stops and pick up passengers right on schedule. But then add in your own small delays, and you see bunching relatively quickly. It really doesn't take much to throw off the equal spacing…..'

Jim Sogi writes:

Watch the ocean for a while, or the beach. Random waves cluster to form set waves, larger than the rest, or rogue waves, which can be magnitudes greater than the average. I believe this is a function of randomness or alternately pattern formation from simple binary functions a la Wolfram.

Here's some good information about Three Phase Traffic Theory.

Jim Sogi writes: 

When I go to the US Mainland and drive the big freeways for long distances, I try to drive about 2 or 3 miles per hour slower than traffic.  Most try to drive as fast as they can and bump up against slower traffic groups, and results in waves of clusters of cars.  It's more effort and emotional cost to try drive fast and requires more attention to try pass, notice and avoid slower cars, and cars next door.  Driving a bit slower requires less attention, less stress as you set you speed, and allow other drivers to pass, avoids coming up on slower traffic, and allows you to drive in the spaces between clusters, the "lulls" so to speak. I'm not in a rush and find it more relaxing and you can see the clusters in the distance, and adjust to drive between them. In large urban areas, the clusters tend to be time of day (rush hours) and location oriented, except for accidents.

In markets, vol clusters and it's good to be aware of the lulls and clusters, the timing of them, the length of the lulls.  It's like the lulls and sets in surfing. Trading also seems to cluster around the rounds, and time of day (arc sine).

In playing and composing music, it's important to leave "space" in the music, where there are fewer notes to allow emotional development. 

Jonathan Bower writes: 

 Mr. Sogi makes some very good observations. I drive 150 miles round trip every day for work. I see people in such a rush to "slow down" when they inevitably meet slower traffic (or jam). Maintaining a high average speed is much more important in determining length of drive (and better on gas). There is also a strong behavior bias to get in the left lane that frequently staying right, particularly in heavy stop and go, is frequently and consistently optimal.

Jim Wildman writes: 

And mathematically, except on long, open road drives, speeding won't save you signification time even assuming you succeed in increasing your average speed.

You can't save 5 minutes on the typical 20 minute commute by speeding. You can if you are willing (and able) to run stop signs and stoplights.

I used to drive from East Texas (Longview area) into Dallas every day (about 115 miles). It was my observation that most radical speeding (10 MPH over) occurred where it would do the least good. Very few drivers speed in the truly rural areas, but once you get into the more potentially congested areas, the number of speeders goes up.

David Lillienfeld adds:

I've found that the frequency of speeding is inversely proportional to the density of police cars on the side of the road. The result is that you have lots of speeding going on on the interstates, punctuated by islands of drivers going at the stated speed limit. I don't know that the state makes much off of speeding tickets in this setting; I do know that it presents a nice the opportunity for accidents as cars slow down and then speed up. Twice, I've seen cars flip in the course of trying to avoid an accident while slowing down—once was just out of range of a radar gun.

Stefan Martinek writes:

I found that a good solution is to reverse the time zone. I had one period when I was living in the US time zone while in Europe. It is always good to avoid crowds. Gyms are also nice and empty around midnight. No clustering.



I found this business model interesting. It involves storing wine in the ocean. Hype or real?

Stefan Martinek writes: 

Anything having to do with wine must be a good business model. In case of some redemptions, managers can drink the inventory.



I found these benchmark tests interesting: "Tactical Asset Allocation: Beware of Geeks Bearing Formulas".



The reasons trend following doesn't work are myriad including ever changing cycles transactions costs, and bid asked spreads, the opportunity to game the system against them, and the ease of triggering mechanical rules and the fact that markets are homeostatic, and supply curves change as prices move up or down.

Ed Stewart writes: 

In my opinion, part of it is that people who mostly trade their own money look at IRR or "cash on cash" returns, and thus see issues of gains and losses more clearly vs. those who only look at marketing documents and time-based returns of recently hot funds.

Larry Williams writes: 

Trend following does not work on just one (or 2, 3, or 4) instrument. Trend followers have to have a large basket of 'bets' on the assumption that someplace in the world a market will trend and that one massive trend—think CL this year and last—pays off the other bets.

It's like betting on all the numbers in Roulette one number pays big odds. Trend followers say they cannot predict which number will show or market will trend, but with enough numbers bet, one will win.

Stefan Martinek writes: 

Larry, you make a great point. TF is more risk/exposure management on a basket than trading. Argument that benefits of diversification end after ~20 markets is such a nonsense (my teacher said that too together with other corporate finance theories; they probably never tested anything outside of equities).

Diversification across groups, styles, markets, and time frames improves risk adjusted returns in a long run. Of course in a short run concentration is great - let's bet all on Apple. TF has a nice barrier of entry which is good: First, some money is needed; second, most operators cannot run 2 years without rewards if necessary. They quit. Philosophically it is somewhere between "systematic macro" and "private equity". In PE you expect that most bets will be a crap unless you are in LBOs and other later stage deals. You expect that some areas will be in slumps maybe for years. Patience is such a great thing if one can afford it.

Orson Terrill adds: 

Well if I hadn't unnecessarily deleted all of my old code I would just spit out some examples… I wrote several functions that tested trend following, and mostly what was observed was that the number of intervals (days, weeks, whatever) in which a trade would be open generally follows an exponential distribution.

For those that do not know what that implies: Lets say trend "A" has been going for 5 days, the probability that the next day will be the end of trend "A" is roughly the same as if trend "A" were 1 day old, or 20 days old. The next day the probability of "A" ending is generally the same, regardless of its age (like a Poisson process for the arrival of the end). The general notion that longer trends are more, or less likely to end, due to their age, is not backed up.

Just because a run is multiple days old/young does not mean it was profitable. In many markets nearly half of the period's range is traded through during the next period, on average (I think this is true on almost all scales in the EUR/USD, but its been a while). This means getting in on momentum greatly increases the likelihood that a trade is entered at such a point where near term downside is slightly more likely than near term upside (assuming its a long equity position).

There were marginal improvements through adding responses to measures of volatility(mostly changes in absolute ranges), rates of change of price medians from multiple length of time intervals, and most significantly in the general case: reversing intra-trend can garner a couple tenths of 1%. Specifically applying those while using several time series which switch regimes in the sharing of strength of running correlations in percentage changes like SPY, TLT, and GLD, might have some interesting results (I eat what I kill, so I had to leave it there).



 We're talking about watch sales around here. Rolex apparently sells 650 million in watches each year. Susan says that wearing a watch these days is like jewelry for men, and that it's useless since everyone has a smart phone. We're thinking about Apple's watches. They'll have to compete with all the other watches. Supposedly they forecast it to use up 1/2 of all the gold production in the world. I wonder when Apple will stumble and launch a product that doesn't set the world on fire. Samsung wearable watches apparently didn't do that great. What do you think, and how will it affect the price of Apple. We just bought some on the news that they had to pay 600 million out of 150 billion in cash on a patent suit, which will probably be reduced to 10 or 30 million.

Stefan Martinek writes: 

I agree with the view that watches = jewelry, but then it is more about IWC Portuguese watches in platinum having an unassuming steel look and simple elegant design. Apple is not a competition here. Apple watch will need a phone for core applications + daily charging. Some people probably like to carry two devices when one is enough. Some people probably disagree with Diogenes "who wanted to be free of all earthly attachments — on seeing a boy drinking with his hands from a stream he threw away his drinking bowl, his last remaining possession".

Pitt T. Maner III writes: 

Given the popularity of the "Quantified Self" and Fitbit, why not a watch that monitors all your physiological parameters (via implanted sensors) and provides feedback on the optimal things to do next.

An early example might look something like this: "a new digital wellness and telemedicine platform which helps patients live a healthier lifestyle and connects healthcare providers to patients using telemedicine and wearable mobile technologies, today announced that its platform will be fully integrated with Apple Watch products. Or this: "Apple Watch wearers with diabetes will be able to use an app to monitor their glucose levels."

Carder Dimitroff writes: 

I believe the iWatch will be an ongoing success. Like they've done with the iPhone, Apple will convert the old watch into amazing and useful technologies. As such, the iWatch will likely become less of a watch and more of something else.
In my family, we seldom call each other. It's either an email, text or FaceTime. Phone calls are the last option. Our iPhones are not used much for phoning home.

Like the iPhone, each iWatch upgrade will pack in more technologies on less real estate. We will likely learn new tricks, become mindful of health issues and live a better life.

You can sign me,

Dick Tracy

anonymous writes: 

My son asked me why he has to go to school? "Why can't all this learning simply be uploaded into my brain?", he asks.

anonymous writes: 

The question becomes:

1. Will it ever have a cam?

2. Will it ever be independent of an iPhone?

3. What body sensors can be built into it?

4. Perhaps it will be the base for iHome?

Just some questions.

Duncan Coker writes: 

A watch is a perfect accoutrement for a man as it is rooted in a practical function. The form and design however vary greatly. They can be showy and expensive or simple, like the Timex my father had. Men like things that have a purpose. Watches are handed down from fathers to sons or daughters for generations. The Tank watch is one of my favorites though I don't own one. Fountain pens are in the same category as would be certain sporting gear like classic hunting rifles, bamboo fly rods, Hardy reels, or Swiss pocket knives that every man used to carry. For Apple I know design is very important along with function which is a good start for continuing this tradition.

Jim Sogi writes: 

A Swiss army pocket knife with can opener, screw driver, wine bottle opener and blade, a simple model, is the most handy camping tool. I love mine. I also have a pocket tool with pliers, knife, screwdriver with multiple tips. It's very handy for many things like sports, camping, and skiing. 

anonymous writes: 

I got a very nice waterproof sport watch used at the Salvation Army for $6. The guy at the jewelry store laughed when he saw the price tag and the battery was $15. You can get a real nice casio waterproof sport watch for $20 with alarms, date, stopwatch. I just don't understand some guys desire for expensive watches or computer watches. If the watch were small, had a phone and music and alarm, and GPS and the battery lasted… maybe.



I thought this was an interesting TED talk: "Is there an equation for intelligence?". Possible conclusions could be: (a) Markets are generally smarter than traders; (b) One day cybernetic devices will be able to beat human traders; (c) We should never get married.



I plan to research few trading strategies based on Commitments of Traders data. Any beliefs (positive or negative) about these concepts? Did anyone try to systematize it?

Bill Rafter writes:

Many have researched the Commitments of Traders Reports. If you really want to pursue this I suggest you go into B-school libraries and review titles of unpublished theses for tips. There is little of value to be found in the "popular" literature.

When researching be mindful that you relate the positions both to the market tradedate-wise to test for significance, as well as relating them to the market releasedate-wise for your profitability. One guy who sells CoT data gets this distinction horribly wrong. Collect your own data.

Most researchers tend to focus on identifying the winners by group, and following them. I would posit that the winners vary by group and are less consistent than you would like. Instead, I suggest that you identify losers by group. You will find much greater consistency with regard to losers.

Anecdote: I used to study the CoT for non-obvious trading opportunities. Once I found a situation where the Large Specs had gone from short to long over one reporting period, while the non-reporters (i.e. small traders) had gone from long to short at the same time. [N.B. little guys tend to do poorly on the short side.] This was in the Oats market, which I generally ignored. The Large Hedgers had not changed significantly. Also, from the reporting date to the release date there had been no market movement. I then called everyone I knew with grain knowledge but learned nothing. (It's important to look for orthogonal information.) Sadly I did not know Jeff at the time. What the hell, I bought a lot of Oats and put on even more Oat spreads (long the near). Within the next month Oats and their spreads moved significantly, giving me a great year, new car, etc. And I never learned the reason for the market's move.



 1. The January barometer has become a Judas goat for the weak to be slaughtered having failed big when down the last 3 times, in 2009, 2010, and 2014 with average subsequent rises in double digits each time (after holding in 2008) but failing in 2005 and 2003.

The stock markets swoon in last few hours on Friday, Jan 30 was 10th worst in last 15 years.

3. Some constructal numbers of the week: gold below 1300, SPU below 2000, and wheat below 5.00, and vix above 20.

4. The best book on science I have read is Michael Munowitz Principles of Chemistry. Some other great books I am reading is Paco Underhill Why We Buy (does for buying what we should do for the market in terms of scientific analysis), Russ Roberts How Adam Smith Can Change Your Life (applies the theory of moral sentiments to how to live happily in current days), Paul Moskowitz and Jon Wertheim Scorecasting (applies sabermetrics and counting to our favorite sports shibboleths), Michael Begon, Townsend, and Harper Ecology 4th edition (the best selling standard ecology book these days) and William Esterly The Tyranny of Experts (how planning leads to poverty compared to the invisible hand), Chris Lewit The Secrets of Spanish Tennis (gives some great footwork drills the Spanish use to rise to top), Lamar Underhood The Duck Hunter's Book (the most beautiful writing about fauna I have ever read and reread that makes you long for the beauty and poetry of bygone pastimes) Uri Gneezy and John List The Why Axis (uses pseudo experiments in real life and contrived anthropogical settings to attempt to prove liberal shibboleths like why genetics and incentives don't matter), David Hand The Improbability Principle (why miracles are likely by chance). That's enough.

5. The service rate paid by the world's most sanctimonious billionaire has risen from 2.5% to 9.5% on quarterly ebit this last reported quarter.

6. The ratio of stocks to bonds is at a 1 year low.

7. Gold is playing footsie with 1300 and SPU with 2000

8. Crude broke a string of 15 consecutive weekly declines with a 7.5% rise this week finally showing that futures moves to telescope reductions in supply the way Heyne elegantly shows they do.

9. The pythagorean theory of baseball runs scored for and against is a statistical due to random numbers, completely consistent with chance and has nothing to do with any recurring tendencies or baseball tendencies.

10. When my kids and relations start calling me worrying about how far the stock market is likely to fall, it's bullish. Conversely when they all start apps, it's time to wonder whether that goose has been plucked.

anonymous writes:

As to point 1.

I posit that all 'indicators', techniques and strategies in the public domain are worse than useless as presented. Within this I include everything preprogrammed into trading software like Bloomberg or Tradestation, the 'January effect', every indicator written about in Futures magazine etc… There are a few public strategies that some firms have made money from but the volatility is enormous and no note is made of survivor bias of others who used the strategy. There are then the preprogrammed techniques available that can be very useful but only as part of a bigger trading process. These last are probably less pernicious than claptrap like the RSI.

It belittles us all to discuss these things.

Consider it this way– everything that makes its way into a magazine or gets programmed into trading software is detritus from the core of truly predictive strategies.

If there is anything to be gained from this it is that you have to do your own homework. 

Larry Williams writes: 

With all due respect you are way off base on this issue; you mean to say OBV is useless, that seasonals have no value that volatility breakouts are worthless, that Bollinger bands are junk and select price patterns have no value? COT is just a joke, that watching spreads and premiums is the same as an Ouija board? Delivery intentions tell us nothing and advancing stocks, volume and Open Interest reflect nothing?

There are lots of great tools in public domain, just as there are good saws and hammers but it takes a good carpenter to make them work.

Anatoly Veltman writes:

Paragraph 1 falls apart on many levels: so what that "it" failed in 2009 and 2010 at price levels triple and double the 2015 level? So what that "it" failed in 2014 - then via principle of alternating years, "it" better work in 2015! But most of all: in day and age of still ZIRP manipulation, what historical market stats? The 2009-2010 were onset of QE, and 2015 is sunset!

Ed Stewart writes:

Taking into account changing cycles, I tend to disagree. I think there is quite a bit of stuff in the public domain that is very worthwhile.

For starters, a careful reading of Victor's book revealed many more specific ideas than it seemed on a casual reading, which I'm sure many/most here know. I have actually made more than decent money with a few ideas (gasp!) I found in the first market wizards book. Larry's book is a bit of a brain dump (which I always like, no offense there), but once again I found some good ideas in it.

I made (for me, not relative to a big fund manager) very significant profits in 2012-2013 using concepts that I first learned about (If I recall) on Falkenstien's blog, and for a time I tried to get a fund started to trade that market. My thought is that sometimes the market is rich for a particular approach do to a counterparty paying a massive premium, consequently sometimes these things go on even when everyone doubts them (which is why they might keep working).

I think the key to public domain stuff is that if one gets the concept behind a good rule-set there might be 1000 other rules related, waiting to be discovered that might be more attuned to the current cycle of market behavior.

Another is in combining ideas. For example in my way of seeing things there are environments were "naive" strategies are very effective - it is a matter of if u can catagolize that environment and then if there is some persistence to it in the next period (My finding is that there often is), though never perfect.

One last thing I learned is (perhaps contradicting the above) Don't ever write anything and assume that no one will reverse engineer and map out every qualitative thing you write. I had a trading blog that admittedly was mostly goofy stuff i wrote to draw free traffic from google, but also some pretty good core ideas I have made good hay with. Then one week I got emails from two different guys (one a big algo firm, the other an execution algo guy at MS) basically saying, "hey, I mapped out these ideas ideas, they really work - thanks!". The next week I took the blog down. So my conclusion is while some good stuff is in the public domain, don't put anything of value in the public domain yourself, even in vague terms not intended to attract a sophisticated audience. 

Stefan Martinek writes:

From whatever I tested, +90% does not hold or does not improve the base case. Few areas are fine despite being in public domain. They can be further developed. It also helps to start PC at least 250-350 times per year, and make tests before forming opinions. There are so many people with beliefs but when you ask them "show me the codes", there is nothing to show. Sometimes an argument goes that you can take anything and make it working, making the dog fly; I agree but I do not think it is a good use of time.



 I just made a post on twitter about true psych regularities as opposed to things that only appear on contrived questionnaires given to college students to advance socialist agendas. The two that I know are true are the sold out bull effect, and one that is particularly quantifiable and weighty today. The tendency to have a chance for something very good to happen, and then to see it taken away, which causes grievous disappointment. I mean oil way up yesterday way above 50, up 5%. Hope, hope, hope. But then down 200 today. Hope disappears. Tremendous self recrimination. What other real psychological tendencies do you see from trading that are real and important rather than the college questionnaire stuff of the Nobel person designed to be self fulfilling of the flimsy hypothesis.

Stefan Martinek writes: 

The higher frequency of trading we have, the less happy and impulsive we are. A relatively large pool of impulsive sociopaths on intraday time frames can create a good mean-reversion environment.

Victor Niederhoffer replies: 

Could be bad for familial harmony also. 



Finance professors teach their students that diversification is the only "free lunch" they can get. Recently, I looked at eight market groups (period 1995-2014). High correlations within individual groups could be expected. More interesting is what is happening on a wider scale over time. I recall that media were writing around 2008 that the "free lunch" is gone and that all markets behave like one big correlated monster, like Dracula. Between 2007-2012 we could see increased numbers, but recently we moved back to the normal. I have attached a figure for the year 2014 (server did not allow more pictures - 100k limit; for those who are interested all data can be found here).

Ralph Vince comments: 

Correlations have NO relevance in allocation decisions — they are not only not constant, they don't address the relationship properly (as a copula does). Using the latter, one see the effect of those oddball days of immense danger, and can then craft their allocation strategy accordingly. Straight correlations tend to mask this.

Stefan Martinek replies: 

I agree Ralph. I like things balanced between equities, fixed income, currencies, and commodities. We can ignore Markowitz + half Chicago. But it is still interesting to see where we are now in comparison to history and whether things somehow degenerate.



How do we test whether we are not over-fitting the data (something else than in-sample/out-of-sample method wasting a lot of data). I can see using Bailey's paper "The Probability of Backtest Overfitting". Any other preferred methods?



 I just read the book Contrary Opinion by R. Earl Hadady. Aside from his point on bullish consensus, I found the following very interesting (I call it theorem of winning and losing). We all know that the majority lose trading futures. So, say 80% traders lose, and let T denote the total number of traders, NW the average number of contracts held by winning traders, and NL the average number of contracts held by losing traders, then the following equation holds:

0.2 * T * NW = 0.8 * T * NL

From the above we get: NW = 4 * NL

Which mean the average number of contracts by winning traders is 4 times the average number of contracts by losing traders.

If 90% traders lose, then we have

NW = 9 * NL

So, the theorem says the deep pocket traders have a natural advantage to win. It begs the question of how traders with not so deep pocket can survive and win. What are the good strategies? I wonder if this also implies that one may increase the chance of winning by not diversifying funds.

Stefan Martinek writes:

"It begs the question of how traders with not so deep pocket can survive and win. What are the good strategies?"

Trading can create such an addiction that sometimes addicts do not realize that the world is full of opportunities outside of trading. Good business strategies match our pockets, or our pockets + pockets of family/friends (initially). Trading with a small account frequently makes no economic sense if we consider opportunity costs. It's better to go kitesurfing.



 I make an unapologetic forecast that by Friday, the EU thumb-sucking backscratchers in the markets will realize that Draghi must resign.

The emperor has no clothes.

Hello USD/EUR parity.

Stefan Martinek writes:

My unapologetic forecast is that USD/EUR will go below parity and somewhere around 0.6-0.8 German voters will decide to leave the party. Euro is too strong for weak members, and too weak for strong ones — it does not fit anybody. Political will will change and the path of least resistance will change as well. Nothing dramatic will happen at that point. The world will function as usual, Schengen area will stay in place, winter resorts in Alps will be nice and functioning. Most forecast are usually wrong …



 "Three Card Monte Scam Artists Return to Midtown"

The Swiss National Bank (SNB) in a way played a good game of 3 Card Monty the past few years with market participants. The winning card was where the rate was going to be. On September 6, 2011 the SNB set a peg for the EuroSwiss rate at 1.2 when prevailing market rates where approximately 1.1, a depreciation of the Swiss Franc of about 9%. Between September 6, 2011 and January 15, 2015 the EuroSwiss rate traded between 1.20 and 1.2650, a roughly 5% range. On January 15, 2015 the SNB removed the 1.2 floor and at the extreme the EuroSwiss market rate went close to .8500, a move of about 30%. Who played the game? Who controlled the cards? Who were the shills? I could not help but recall my own adventures in 3 Card Monty and loss of a $50 bill as a student playing Holden Caulfield in Times Square circa 1983.

What trading lessons might there be in the move by the SNB and subsequent moves in markets? How can these lessons be embodied to provide a future playbook of offensive and defensive plans? Following some delirium from trading the markets the past few days some clarity came to mind on some runs the past day or two. First, some empathy to all have may lost in the market this past week. One close friend of many years described the feeling just 30 minutes after the SNB decision by saying " I feel like I just got my leg blown off, I can barely think straight".

10 rules, lessons, and examples I have found effective and illustrative.

1. Find and trade markets where your edge is the greatest.
2. Avoid markets were the probability of rule changes and lack of transparency is present.
3. Think of and imagine market scenarios others fail to.
4. Fundamental macroeconomic forces will ultimately prevail.
5. Trading time frames and profit objectives though must coincide with what the market is giving you at any one time.
6. Quantify risk with a multidimensional perspective, not just by one or two measures such as VAR or a price stop.
7. Learn from history. Jay Gould and his attempts to corner the gold markets in the late 1860's. The Russian default of 1917 and 1998. The European Rate Mechanism break up. The Tequila crisis of 1994. The Asian financial crisis.
8. Be deadly serious, as Gichin Funakoshi said "You must be deadly serious in training". If you have a position make it a meaningful size and monitor it carefully. I recall many comments from fellow traders the past few years saying something like "I am long EuroSwiss just to have some on but not really watching it."
9. Define and use a trading methodology that incorporates a process and framework that works for you. Inclusive in this should be a daily routine that includes diet, exercise, family time, etc.
10. Seek out catalysts for CHANGE in markets. Where are the forces, in a Newtonian like law of motion, building up the greatest to cause a CHANGE and movement in markets?

What further elaborations and examples might there be?

Stefan Martinek writes: 

I was thinking about it recently. Great list. I would only add: (a) Be prepared that liquidity in any market can disappear regardless of historical data or experience; (b) Mind counterparty risk.

Anatoly Veltman writes: 

Excellent lessons from John. The dilemma here is of common variety, though. Similar to an individual smaller stock: you're either an insider, or a mark. In case of the SNB last few years: you were either in bed with the devil, or you were exposed to a chance of a -100000% annualized loss on any given random day


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