Lessons from the Markets

Over the years, I’ve kept a journal about all the lessons I’ve learned from trading in the markets (mostly stocks and options). Most of these lessons are geared toward not losing money. When traders are starting out, many of the books and material they read will tell them that the book cannot make them rich (this goes for many of the very best books). Indeed, it’s unclear what I could tell you to help you make money. This may be unsatisfying to many budding traders (it was a little to me).

However, if you trade long enough, and are committed, you will have winning trades. In fact, if you trade long enough, you’ll have some trades that win very big (unless you specifically do strategies that preclude this). If you can just eliminate the losing trades (or make the losing trades not so bad, which is very doable), then that is actually quite meaningful. As a result, though there’s not much I can tell you that will make you money (what works in the markets changes every day, I’m not really planning on updating this article every day), I can tell you the lessons I’ve learned which have helped me not lose money. Hopefully some of this may help.

I give the principles in the order that I wrote them. This is over the course of many years, and I (hopefully) got better as the years went on. Consequently, one might be able to discern my trading trajectory from the kinds of mistakes I had to warn myself about at different points in time. Most of my trades are timing directional market movements, often on the scale of weeks to months. As a result, some of this isn’t applicable to other forms of trading, but I think most of it is (especially for discretionary traders and investors).

Take profits. It’s hard enough to make money doing this. If there’s ever a point where you’ve made enough money to feel proud, pull out.

The markets aren’t going anywhere. There isn’t any golden opportunity.

To actually make serious money you need to be the first – first to buy and first to sell. Selling early may be hard as it feels like you’re missing out on profit – and sometimes you are (though not as much as you may think) – but it’s the only way to guarantee profit and in the long run is what makes you actual money. It’s really difficult to make money in the markets. Once you actually have made it, recognize that and take it immediately before it slips away.

Be careful when any trade seems obvious.

Be patient, you’ve never / you’ll never miss out on an important move because you didn’t act within seconds/minutes. This is when you get stuck holding miscalculated positions.

If you do this right you don’t need to make that many trades.

You own the options. The options don’t own you.

It’s almost certainly not going to move exactly how you think it will.

Get out early.

Always go with the stronger force.

Chase fear.

Be terrified of complacency.

Do what no one else is thinking.

Markets move based off expectations.

Don’t be excited to trade. Don’t look forward to it. This is boring.

You earn your money in fear.

When it comes to trading, anxiety is bad, fear is good. There is a difference. Don’t trade if you have anxiety. With fear, you only feel the uncomfortable emotion before you enter. Once you enter the trade, before anything happens, you might even feel grateful you entered and are expecting the move. Anxiety, however, pervades throughout, even when you try to sleep or are sleeping.

Think large scale. Think long term.

Leave plenty of time in your trades for the move you expect to happen – quite a bit more time than you think you need.

You make the same amount of money whether you’re trading something you know versus something you don’t know, so just trade what you know.

Trust yourself. Have tremendous confidence in yourself. Doubting yourself gets you nowhere (after all, the whole idea is that you use your competency in order to make money).

Do not get into a position when you sense that much of the popular sentiment is in a similar position.

You shouldn’t get in to feel comfortable (i.e. to no longer be worried of the move happening without you). You should be fearful to buy.

If you expect it to happen, it could be earlier than you expect, but if you expect it to take some time (i.e. happen after a move in the other direction), it could take longer than you expect.

Do not be willing to tolerate large short term losses with the expectation that things will change and you’ll recoup the losses and then profit, because you expose yourself to the real risk that you incur the large temporary losses, and then the market conditions change in a way that your trade will no longer work and you’ll no longer be able to recoup your short term losses (which are now long term losses).

Don’t beat yourself up too much about missing out on a trade. If you entered into every trade you thought to do, you’d have a worse record and maybe even have lost money.

I have good ideas, but it’s possible some of my ideas end up performing better than others, and I won’t know ahead of time which are which.

Getting better as a trader is the process of continuously removing your bad trades until only your good trades remain. In other words, continuously determine what goes into a bad trade and avoid that.

If I’m dreaming of the trade going well, that’s probably a bad sign (I shouldn’t be dreaming, I should be expecting).

All rules are superseded by making money. Be ready to break any and all of the rules if there is money to be made. Be ready to break all the rules (except for risk management).

Most of these trades and unique ideas and edges are a matter, not so much of having information other people don’t have, but of just realizing things other people hadn’t, not because they can’t but because they just don’t.

Don’t get in unless you think it can work immediately.

Real money is quiet, and it’s rarely convenient.

A good entry in many cases is the difference between a winning and losing trade, in part because bad entries on good trades can give you temporary losses and make you less likely to stick with the winning trade.

The second you become uncertain about what’s going to happen to a stock, get out. Only trade what you know.

Don’t have theories. The market is far too complex for theories.

When it comes to the S&P (and for any general investor following the market), unless you know it’s about to go down, you buy. Only short when you know a selloff is imminent. Most regular investors mess this up by trying to short the market (or at least not buy), even when a selloff isn’t imminent.

From Stuart Walton (in Market Wizards by Schwager): 1. Prices move before fundamentals. 2. It is a warning flag if the market is not responding to data correctly.

I don’t decide when I trade, the market does.

Don’t bother with a trade you don’t believe in for the long term (note to the reader, given the active nature of my trades, long term may only mean a couple of months). All your best trades have been trades you planned to hold for the long run. Don’t do any trade you don’t believe in for the long run. You should be comfortable holding this trade for weeks, months, even a year.

Do trades that allow you be patient rather than compel you to be impatient (i.e. necessarily short term trades like short dated options plays).

React to market conditions, not market movements.

Don’t trade if you don’t know the future.