The Finance Book Club

This thread is amazing. Kudos. Like cliff notes for trading books.

(yeah I know qouting yourself)
Call me a glutton for punishment if you must. I just finished reading every word in this thread. One of the best.

I suppose I could probably make it a little more 'user friendly' but I hope it wasn't too punishing! Hopefully there was something in there that you can use for profits. Cheers!

Part IV - fund managers and timers
Stanley Druckenmiller (the art of top down investing)

1. You could be right on a market and still end up losing if you use excessive leverage.
2. Many managers will book their profits when they’re up a lot early in the year. It’s my philosophy, which has been reinforced by Mr. Soros, that when you earn the right to be aggressive, you should be aggressive. (go for the jugular)
3. George Soros had become my idol. He seemed to be about twenty years ahead of me in implementing the trading philosophy I had adopted: holding a core group of stocks long and a core group of stocks short and then using leverage to trade S&P futures, bonds, and currencies.
4. George Soros has a philosophy that I have also adopted: The way to build long-term returns is through preservation of capital and home runs. You can be far more aggressive when you’re making good profits. Many managers, once they’re up 30 or 40 percent, will book their year [i.e., trade very cautiously for the remainder of the year so as not to jeopardise the very good return that has already been realised]. The way to attain truly superior long-term returns is to grind it out until you’re up 30 or 40 percent, and then if you have the convictions, go for a 100 percent year. (if)
5. It's not whether you’re right or wrong that’s important, but how much money you make when you’re right and how much you lose when you’re wrong. The few times that Soros has ever criticised me was when I was really right on a market and didn’t maximise the opportunity.
6. When you have tremendous conviction on a trade, you have to go for the jugular. It takes courage to be a pig. It takes courage to ride a profit with huge leverage. As far as Soros is concerned, when you’re right on something, you can’t own enough.
7. Soros is also the best loss taker I’ve ever seen. He doesn’t care whether he wins or loses on a trade. If a trade doesn’t work, he’s confident enough about his ability to win on other trades that he can easily walk away from the position. There are a lot of shoes on the shelf; wear only the ones that fit. If you’re extremely confident, taking a loss doesn’t bother you.
8. as long as I can cover my positions—there’s no reason to be nervous.
9. You can’t win if you have to win

Richard Driehaus

1. it’s not that easy to buy back a good stock once you’ve sold it. It reinforced the idea that there’s great advantage and comfort to being a long-term investor.
2. Having said that he also says he churns his portfolio more often than most to get superior performance. High turnover reduces risk when it’s the result of taking a series of small losses in order to avoid larger losses.
3. There are a lot of different inputs that can affect a decision, and there are no universal decision rules. It’s not purely deterministic; there’s an element of art involved. Ultimately, you have to balance your underlying faith in the company with the price action.
4. That has been my observation over the years. If there’s a large move on significant news, either favourable or unfavourable, the stock will usually continue to move in that direction. This can be hard to do.
5. I believe that far more money is made buying high and selling at even higher prices. I would much rather invest in a stock that’s increasing in price and take the risk that it may begin to decline than invest in a stock that’s already in a decline and try to guess when it will turn around.

The Global Financial Markets Coursera Course by Robert J Shiller- is the only one that I think is punishing lol

It's like a pons asinorum, at the start of the thread, designed to keep out the less dedicated.

Think it is just fine as is. Thanks for all your hard work.

Gil Blake (the master of consistency)

1. In researching the price behaviour of individual stocks, I have found that significant daily price changes (with relative strength) have about a 55 percent chance of being followed by a similar directional move on the following day. After allowing for commissions and bid/ask spreads, that is not a sufficient probability edge to be tradable.
2. The markets are mostly random, and most people can’t beat or “time” the market. One hundred money managers each believe that they can consistently outperform the market. My feeling is that the number is a lot closer to zero than one hundred.
3. Rules:
   1. First, focus on trading vehicles, strategies, and time horizons that suit your personality.
   2. Second, identify non-random price behaviour, while recognizing that markets are random most of the time.
   3. Third, absolutely convince yourself that what you have found is statistically valid.
   4. Fourth, set up trading rules.
   5. Fifth, follow the rules.
   6. In a nutshell, it all comes down to: Do your own thing (independence); and do the right thing (discipline).

Victor Sperandeo

1. I learned about the markets by reading everything on the subject that I could get my hands on. (you’re in the right place)
2. [Ibbotson found] the stock market returned an average of 9.2 percent annually, including dividends. Therefore, if the market rises 20 percent in, say, 107 days—which happens to be the median time duration of an intermediate upmove—then you’ve squeezed out a lot of value in a very short amount of time. The market as a whole has become much less of a value.
3. However Sperandeo doesn’t use this data to make forecasts. To use extent and duration profiles to predict exact market turning points would be like an insurance company telling you when and how you will die on the day you buy your policy. They don’t have to do that to make a profit. All they need to do to make a profit is to know what the odds are.
4. Why buy and hold doesn’t work: If something happens once, I think logic tells you that it can happen again. Actually, I believe that anything can happen, but certainly if it has happened before, it can happen again. From 1929 to 1932, the market dropped an average of 94 percent. (the Fed would never let it happen)
5. The key to trading success is emotional discipline. Making money has nothing to do with intelligence. Think of all the bright people that choose careers on Wall Street. If intelligence were the key, there would be a lot more people making money trading.
6. In all the months I lost money, I always ended up trading small—sometimes trading as little as 1 percent of the account. When I get into a losing streak, I like to read a nonfiction book to learn something new. That action accomplishes two things. First, it takes my mind off of trading; second, by enhancing my knowledge, I help improve my self-esteem. The key is to do something positive.
7. Q: Is the pattern more reliable if the previous high is penetrated before prices pull back?
   A: As a matter of fact, yes. In fact, this one pattern alone can sometimes catch the virtual exact high or low. In my view, these types of price failures are probably the most reliable and important chart patterns. (but price always pulls back somewhat after a new high is made, so the real question is how far do we let price pull back before assuming it has failed?) Sperandeo says this happens because of the way stops are set.
8. In cases where there are valid fundamental reasons for the continuation of a price move beyond the previous high (or low), the move will tend to extend. However, if the move to a new high (or low) was largely caused by local trading activity, once the stop orders are filled, prices will tend to reverse, falling back below the prior high (or rebounding above the prior low). In effect, the triggering of the stops represents the market’s last gasp.

Tom Basso (mr. serenity)

1. It's psychologically comforting to construct a system that looks very good in its past performance. In their desire to achieve superior past performance, system developers often define system conditions that are unrealistically restrictive. The problem is the future never looks exactly like the past.
2. The process of mentally organizing and relaxing before I get to work helps me start my day in a very positive frame of mind.
3. You feel like you’ve already seen this movie once before, and you wonder whether it’s going to come out the same way.
4. I notice that sometimes the trading signals that I’m intuitively most nervous about turn out to be the best trades. Therefore, over the long run, I think my performance is best served by following my systems unquestioningly.
5. There’s another aspect to why I prefer a purely systematized approach. I find that using systems gets the monkey off your back. If you lose money today, it’s not your fault; it’s the system that had the problem. There is an element of disassociation involved. Once I was fully computerized, I found that I was less and less emotionally involved in each trade.
6. I think investment psychology is by far the most important element, followed by risk control, with the least important consideration being the question of where you buy and sell.

Linda Bradford Raschke (reading the music of the markets)

1. I believe that only short-term price swings can be predicted with any precision. The accuracy of a prediction drops off dramatically, the more distant the forecast time. I’m a strong believer in chaos theory.
2. To me, the ideal trade lasts ten days, but I approach every trade as if I’m only going to hold it two or three days.
3. I’m also a firm believer in predicting price direction, but not magnitude. I don’t set price targets. I get out when the market action tells me it’s time to get out, rather than based on any consideration of how far the price has gone.
4. In day trading, a good entry price is critical because it buys you time to see how the market will react. If you buy because you think the market should bounce, but it only goes sideways, you’d better get out. Part of the trading process is a matter of testing the water. If your entry timing is good enough, you won’t lose much even when you’re wrong.
5. One of my favorite patterns is the tendency for the markets to move from relative lows to relative highs and vice versa every two to four days. This pattern is a function of human behavior. It takes several days of a market rallying before it looks really good. That’s when everyone wants to buy it, and that’s the time when the professionals, like myself, are selling. Conversely, when the market has been down for a few days, and everyone is bearish, that’s the time I like to be buying.
6. Doesn’t dump a bad trade immediately - I find that I can usually get out at a better price if I have a little patience, since the reason I got into the trade in the first place was because the market was so overdone that a reaction seemed overdue. Once I’m out, it’s easy for me to get back in. If I buy back at a higher price, I just look at it as a fresh trade.
7. I don’t think I underestimated the risk of the trade when I bought ten S&P futures on the day of the crash. However, in retrospect, I certainly was naive in having faith that the markets, clearing firms, and banks would continue to function. The subsequent realization that if the Fed had been less aggressive, my clearing firm, along with many others, could have gone bankrupt, obliterating my account equity in the process, really shook me up.
8. Finally, remember that a trader is someone who does his own work, has his own game plan, and makes his own decisions. Only by acting and thinking independently can a trader hope to know when a trade isn’t working out. If you ever find yourself tempted to seek out someone else’s opinion on a trade, that’s usually a sure sign that you should get out of your position.

Mark Ritchie (god in the pits)

1. You have to be able to think clearly and act decisively in a panic market. The markets that go wild are the ones with the best opportunity. Traditionally, what happens in a market that goes berserk is that even veteran traders will tend to stand aside. That’s your opportunity to make the money. As the saying goes, “If you can keep your head about you while others are losing theirs, you can make a fortune.”
2. Magnitude of losses and profits is purely a matter of position size. Controlling position size is indispensable to success. Of all the traits necessary to trade successfully, this factor is the most undervalued.
3. How many times have you heard someone put down an idea you’re excited about by saying, “If it’s such a good idea, why isn’t everyone doing it?” This is the battle cry of mediocrity. Think about it for a minute. Any investment opportunity that everyone else is doing is by definition a bad idea. I would always recommend doing the opposite. Markets get out of line because everyone is doing the wrong thing.
4. The ability to implement your ideas despite adverse conditions. There is no opportunity in the market that is not an adverse condition situation.
5. I think it’s generally a good idea that when you put on a trade, it should be so small that it seems almost a waste of your time. Always trade at a level that seems too small.
6. Never trust anyone else’s work.
7. Also recommends Schwager’s ‘Complete Guide to the Futures Markets’.

Joe Ritchie (the intuitive theoretician)

1. Founder of CRT, basically one of the first HFT trader operations, before they were automated.
2. There will always be mispricings in the market. The notion that the market will trade at its precise theoretical fair value implies that someone will hold it there without getting paid. Why should anyone do that? The service of making a market, like any other labour, is one that people are not going to want to do for free.
3. On historical vs. implied volatility: implied volatility is a statement of what all the players in the market, having cast their votes, believe is a fair price for future volatility. Historical volatility is nothing more than a number representing past volatility.
4. Successful traders tend to be instinctive rather than overly analytical. [Analysis] seems to mask intuitive traits and abilities. In fact, the most analytical people tend to be the worst traders.
5. They also tend to be humble.
6. Other people who do this type of trading often approach it too mechanically. People who are mathematically oriented believe that if you can just get the formula right, it solves the whole problem. It doesn’t.

Blair Hull (getting the edge)

1. Whether you’re playing blackjack or trading, your profitability depends on your edge and how many times you get to apply that edge. The team approach provides two advantages.
   1. 1.First, assume that over a weekend of playing, the odds of my coming out ahead are two out of three. By combining banks with another person, the total number of trading days would be doubled and, as a result, the probability of winning would rise to three out of four. The more players you combine, the better your chances of a successful outcome.
   2. 2. The team approach allows you to increase the maximum bet size. Theoretically. the largest bet you can make should be one-fiftieth of your capital. If you have $1,000, that means your biggest bet should be $20. If five players with $1,000 apiece combine, however, the maximum bet size increases to $100.

2. There is a natural tendency for stocks to finish at or near the strike. A few years ago I did some statistical work that was quoted in the Wall Street Journal. Speculators tend to be long the slightly in-the-money calls and they usually sell their option positions prior to expiration because they don’t want to exercise them. statistically, a stock is about twice as likely to finish within one-quarter of a point of the strike price at an option expiration than might be expected if there were no correlation involved.
3. You can’t listen to the news.
4. You have to go with the facts.
5. You need to use a logical approach and have the discipline to apply it.
6. You must be able to control your emotions.
7. You need to go for the small theoretical edges instead of home runs.
8. Based on my experience with the traders I’ve hired, I would say that successful blackjack, chess, and bridge players are more likely to fit the profile of a good options trader.
9. If you don’t have a method (i.e., an edge), then trading is every bit as much a gamble as betting in the casino.
10. Trade infrequently and only when you have a strong idea.

Jeff Yass (the poker ace)

1. Whereas betting when you have the best hand may seem like the right thing to do, there’s often a better play.
2. Option trading decisions should be based on conditional probability. I may have thought that an option was worth X, but now that someone else wants to bid X + Y, I may have to revise my estimate of the option’s value. The lesson we try to teach our traders is that anything that seems very obvious should be double-checked.
3. This interview has a number of side-topics including poker, options strategy and the Monty Hall Problem. Schwager publishes a letter from a respondent to Marilyn Vos Savant’s newspaper column where she correctly solved the problem but didn’t do a great job of explaining why her solution is correct, prompting a flood of angry misguided letters. This response is the best explanation I’ve read for what makes the Monty Hall problem seem simple when it really isn’t.
   To illustrate better the right answer—that a player should switch the door picked first after one of the other two has been opened by Monty Hall, the game-show host—suppose the game were played with 100 doors, goats behind 99 and a car behind 1.When first offered a door, a player would realize that the chances of picking the car are low (1 in 100). If Monty Hall then opened 98 doors with goats behind them, it would be clear that the chance the car is behind the remaining unselected door is high (99 in 100). Although only two doors would be left (the one the player picked and the unopened door), it would no longer appear that the car is equally likely to be behind either. To change the pick would be intuitive to most people. (Cory Franklin of Chicago)
4. Nine times out of ten, the reason the institution is offering the call at [a discount] is because it’s fairly certain that the stock is going lower. Given that this institution is offering the option at below its intrinsic value, which is more likely—they’re so naive that they’re virtually writing you a risk-free check for $25,000, or they know something that you don’t? My answer is, given that they want to do this trade, the odds are you’re going to lose.
5. My guess about where interest rates will be in the next twenty years is better than that of almost any economist, because all I have to do is look at where the bond market is trading. If it’s trading at 8 percent, that’s my projection. Someone can spend millions of dollars developing an elaborate interest rate forecasting model, and I’ll bet you that over the long run the bond market’s forecast will be better. The general principle is that if you can give up your ego and listen to what the markets are telling you, you can have a huge source of information.
6. People don’t realize that diversification is beneficial even if it reduces your return. Why? Because it reduces your risk even more.

The final section of the book is on the ‘Psychology of Trading’ and in my opinion Schwager could not have picked more obvious crooks to foist on the unsuspecting reader. I am going to skip their ‘wisdom’ and leave it to the curious reader to discover it on their own.
Although having said that, this paragraph stands out:

Whenever there is effort, force, straining, struggling, or trying, it’s wrong. You’re out of sync; you’re out of harmony with the market. The perfect trade is one that requires no effort.

That brings me to the end of book 2. Next: Stock Market Wizards.

Stock Market Wizards

1. Focus on the entire market and the sector, not just the individual stock. Don’t suffer from ‘market myopia’ where you analyse all the details but miss the big picture
2. Schwager points out that this book was done right before the big dot com crash in 2001. So there are addendums at the end of each chapter to recount how each trader handled the crash.

Stuart Walton

1. At our morning meeting a standard question always was: “What is going to happen today?” All the participants would give this spiel about why they thought the market was going up or down. They would talk about the influence of currency rate movements, fiscal and monetary policy, interest rate trends in the United States and other countries, and so on. When my turn came, I would simply say, “I think the market is going down today.” When they asked me why, I would answer, “Because it went up yesterday.”
2. Usually you don’t just hear about a problem and then have it end
3. Buy on extreme weakness and sell on extreme strength.
4. By cleaning out my portfolio and reinvesting in solid stocks, I made back much more money than I would have if I had kept the other stocks and waited for a dead cat bounce.
5. Why he doesn’t talk to companies: I found that either they told me what they had previously told everyone else, and it was already factored into the price, or else they lied to me.
6. I think a lot of successful traders are unemotional, hardworking, and disciplined. Ironically, I find myself lacking on each of those counts.
7. I would attribute my own success to having both conviction about my gut feelings and the ability to act on them quickly. That is so critical.

Rules:

1. Be patient—wait for the opportunity.

2. Trade on your own ideas and style.

3. Never trade impulsively, especially on other people’s advice.

4. Don’t risk too much on one event or company.

5. Stay focused, especially when the markets are moving.

6. Anticipate, don’t react.

7. Listen to the market, not outside opinions.

8. Think trades through, including profit/loss exit points, before you put them on.

9. If you are unsure about a position, just get out.

10. Force yourself to trade against the consensus.

11. Trade pattern recognition.

12. Look past tomorrow; develop a six-month and one-year outlook.

13. Prices move before fundamentals.

14. It is a warning flag if the market is not responding to data correctly.

15. Be totally flexible; be able to admit when you are wrong.

16. You will be wrong often; recognize winners and losers fast.

17. Start each day from last night’s close, not your original cost.

18. Adding to losers is easy but usually wrong.

19. Force yourself to buy on extreme weakness and sell on extreme strength.

20. Get rid of all distractions.

21. Remain confident—the opportunities never stop.

22. After a losing streak; trade smaller

23. Don’t dabble, either go at it full force or not at all
    

24. Many of the indicators that have worked reliably for decades have ceased working in the current bear market, leaving many professional market participants looking foolish.
25. New rule: If the portfolio is down 5 percent in any month, I will pare down the exposure, and if it declines by 10 percent, I will go completely to cash.

Steve Watson

1. Recommends One Up on Wall Street by Peter Lynch
2. The gist of Lynch’s advice to the ordinary investor is: Invest in what you know—the company you work for (assuming it is doing well), companies in the same industry, or companies that make a product you can touch and feel. His point is that people would be much better off investing in companies they understand than listening to their broker and investing in companies they know nothing about. If you can’t summarise your reasons for owning a stock in four sentences you probably shouldn’t own it.
3. On shorting stocks: The timing is definitely the tough part. That is why we spread our short position across so many stocks and use rigorous risk control on our shorts. I don’t mind if I have a long position that goes down 40 percent, as long as I still believe that the fundamentals are sound. If a short goes 20 to 30 percent against us, however, we will start to cover, even if my analysis of the stock is completely unchanged. In fact, I will cover even if I am convinced that the company will ultimately go bankrupt. I have seen too many instances of companies where everything is in place for the stock to go to zero in a year, but it first quintupled because the company made some announcement and the shorts got squeezed. If that stock is a 1 percent short in our portfolio, I’m not going to let it turn into a 5 percent loss.
4. On an unsuccessful hire: He was one of the smartest people I have ever known. The problem was that he didn’t have any intuition, and he didn’t get the risk side. For example, he would say, “We have to short Yahoo at 10 because it is worth zero.” He didn’t have any instinctive feel for what was going on in the market.
5. You can’t be afraid to take a loss. The people who are successful in this business are the people who are willing to lose money.
6. In the follow-up after 2002 Watson had handed off management in the fund to two successors for mysterious reasons. “I have never seen microcap stocks so cheap, but I also have never seen so many stocks that are lacking a catalyst to make them move higher. I’m quite optimistic about the longer-term outlook—say, beginning in 2003.”

Dana Galante

1. If the stock I am short collapses to support, I will probably get out. Support defined as price areas that have witnessed a lot of buying in the past—points at which prices consolidated before moving higher.
2. When a chart breaks out to a new all-time high, unless I have some really compelling information, I just get out of the way.
3. I don’t want to grow. I don’t want to manage people; I want to manage the portfolio.
4. Red flags for shorts:
   1. Companies that blame shorts for the decline in their stock price
   2. Faking revenues (obviously)
   3. A company that goes from its traditional business to whatever is hot
   4. Management changes, particularly the CFO
   5. Auditor changes
   6. High receivables
   7. Revenue deceleration
   8. Earnings declaration
   9. High P/E
   10. High inventories
   11. Breaking below the 50d moving average

5. You can’t screen for all these factors at one time, or else you won’t get any stock that fits all the search requirements.
6. If I lose 20 percent on a single stock, I will cover one-third of my position. I limit the allocation to any single stock to a maximum of about 3 percent of the portfolio. If a stock increases to a larger percentage of the portfolio because of a price rise, I will tend to reduce the position. I also control risk through diversification: There are typically fifty to sixty names in the portfolio spread across different industry sectors.
7. With the exception of a couple of short sellers that have become my friends, most short sellers tend to be very pessimistic on the world and life. They tend to be very negative people.
8. Update in 2002: Galante, not surprisingly, as a short-seller has done well in the bear market but complains that it’s harder to find opportunities as valuations are down across the board.
9. One of the things we are doing to identify possible shorts is to look for companies that have a large gap between pro forma earnings and GAAP earnings.