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Trading Justice Newsletter
Trading Justice Newsletter
Extremistan: this strange and bizarre terrain where the financial markets belong to. Some of us have found a way of living through the financial markets. Others, a way to get rich. Many others, a way to build long-term wealth and leave a legacy to their heirs. A casino where they can experience a good adrenaline rush is a reality for most folks as well. Whatever the goals are, the vehicle is the same for all of us: trading money back and forth in the stock market which, in turn, belongs to the Extremistan.
The financial markets are whatever you want them to be so, playing them to reach your goals is what matters. That is the key to succeeding in this business.
We hate giving bad news to good people right from the start, but here is the bottom line: without a WHY you won’t go too far. It is the WHY that will help you during hard times and will also guide you to become a successful trader/investor.
Essentially, the reason why most people either succeed or fail at something is dependent on whether they have a clear and strong WHY.
In trading, we can answer the questions:
“Where should I put my money?” That’s not complex.
“Which strategies should I use?” That can also be answered simply. But…
“Why do you want to be a trader?”
If you don’t have a strong why then you will be challenged and you’re more likely to give up at some point in your journey.
Coach Tim Justice put together this content about starting with a WHY as a response to an email a student sent to him. We highly recommend you watch it and also sit down with a Mentor to set your goals.
Is the financial market a place where we can experience –100% losses in a row? Yes.
Is the financial market a place where we can experience +1,000% gains in a matter of days? Yes.
If you choose to be a trader/investor, if you are serious in this business, the first step is to embrace the reality of this environment. No logic. No rationality. Sudden moves. Cycles of pure euphoria. Moments of pure darkness. Herd effect. Cognitive biases. Linear minds dealing with an exponential world.
Amor fati, the love for your fate, is the way. Give up trying to forecast the movements. Give up trying to find linearity and rationality where there is not. Embrace and love your fate. Embrace and love the markets as much as you embrace and love your trading career. Embrace and love your losses as much as you embrace and love your profits. Stoicism. Endure hardship as a good soldier. If something bad happens to you, acknowledge that that was the path you’ve chosen and start making delicious lemonade out of it. As in life itself, it’s all building your character and your skills as a professional investor.
Remember those old infomercials advertising PureJuiceUltraExtractor juicer machines from the late 90s where strange spaceship-looking household appliances were used to make a ‘delicious’ juice out of nuts, bolts, nails, and screws?
You get the exaggeration. Back there, while watching those ads for the sake of killing time, I was pretty sure someone, at some point, would throw a handful of metal parts in there and make a Heavy Metal Juice out of them.
Once you embrace that markets are what they are, you can now begin to think of grabbing all this irrationality, ambiguity, complexity and randomness and grind them in your favor.
How to become an iVUCA juice maker? Become the antonym of the markets:
A methodological approach to the markets is paramount. Randomness is good. Irrationality is good. For them. For us, method.
If you are a trader/investor that is permanently in the search for an edge to make money in the markets, having a method to approach the madness is the way to go. In the land of the blind, the one-eyed man is king.
I grew up as a regular Brazilian kid in the 80s watching soccer games on the TV. My favorite team? Flamengo. Indisputably, they had the best soccer team at that time, winning each and every competition, each and every soccer tournament.
My all-time idol was Zico, the mythical number 10 shirt. Try a quick search on YouTube to find out who he is.
Well, long story short: every time I watched Zico playing I wanted to be a soccer player as good as he was. However, I would never go outside to play because I knew I would fail miserably in the sport (sports in general, to be honest). Remember there were no YouTube tutorials at that time. “How to play like Zico”. Forget about it.
No wonder I never learned how to play like him. Sounds logical, doesn’t it? Who’s going to learn how to play soccer by watching a soccer game? Really?
How did Zico has become one of the most acclaimed soccer players in the world? Practicing and refining his skills over and over and over and over again. Replace Zico by Michael Jordan and you can apply the same rationale to basketball. Replace Michael Jordan by Peter Lynch and you get the financial markets equivalent.
Here’s the advice: Do it. Trade. Invest. Over and over again. Make money. Lose money. Get emotional so you get to know yourself better and spot your weaknesses. Control your emotions so you know how strong you are.
Most broker platforms offer you a simulated environment, there is no excuse for not doing it.
The previous topic naturally leads us to this one: to eat a nice omelet, you will have to break some eggs. Here’s a short story that will perfectly describre the ‘Omelette & The Eggs’ trap:
This friend of mine knows I’m a trader. She has this money, not huge amounts, although not too shabby, either. She lives in Northeast Italy, I live in the Northwest. We have almost the same background in life, kids at the same age and we are about the same age as well. I wish this conversation had happened live, preferably with wine, but it didn’t. Via Whatsapp with no alcohol was how it went.
— So, what’s your struggle?
— We have this money and we wanted it to grow.
— Where is it?
— In the bank doing nothing there.
— I see. What are your goals?
— Just to make it grow. But I don’t want to lose! I’m terrified of losing anything.
— Losing you already are, you see. The Eurozone is not growing, the Euro is not in good shape and inflation in Italy peaked at 1.7% last year. Interest rates are at the zero mark and there is a default risk in the foreseeable future. Have you ever thought about opening an account in the US?
— IS IT LEGAL??
— Perfectly.
— But I don’t want to lose.
— Losing you already are, I told you. Take ≈2% of your money every year. This is more or less how much you are already losing. If the situation degenerates you can add more to that loss.
Then, the conversation proceeded. In short:
So we are in this place. No time, no stomach, no return, full risk. She wants the omelet but is afraid of breaking the eggs. Meanwhile, the eggs deteriorate in the refrigerator.
Trader, get the eggs out of the refrigerator and break them.
Now I will tell you what I’ve done for you
Fifty-thousand tears I’ve cried
Screaming, deceiving and bleeding for you
And you still won’t hear me
In the March 2019 edition of the Trading Justice Newsletter, we’ve talked about Position Sizing as one of the pillars of the Holy Trinity of Trading—the series on how successful traders are born—, together with Portfolio Design and Reward to Risk Ratio. We’ve used a quote from Stanley Kubrick to make the final argument on the publication.
The financial markets are not only a world of extreme and random events but also a very hostile environment upon which, we retail traders, have no control whatsoever. A metonymy of life and of social interactions, not a clinical and sterile environment as we are led to believe.
It’s not because we can identify and keep track of the data that goes into a candlestick that we have total control over it.
The markets are not the controlled chemical reactions that take place inside sterile essay tubes, but more like the Amazon rainforest, where you can meet, in a matter of days, a 17-feet Anaconda that will have you for dinner and couldn’t care less about your feelings. In addition to all that, markets are utterly complex environments and its participants don’t know what rationality is.
How to deal with such indifference?
Be humble.
Know your place.
Find balance.
Have a plan.
Master the Holy Trinity of Trading.
The financial market is whatever we want it to be. We don’t know how to deal with such a level of freedom, however, as traders, we must know how to so we can survive its madness.
We look at it, stare at it for a while; we perceive it and interpret it. From that interpretation, we know what to expect from it. And this is what we will be trading from that moment on until we change our perception. That’s the key.
Instead of just a place where we buy and sell financial assets, it can assume any form we so desire:
Whatever the case is for you, it’s not the markets you trade, but your perception of it.
What will your perception be?
Volatility is not a synonym for risk and vice-versa. The problem with low volatility is that it hides the risk under the false impression that everything is OK. The risk is still there, it’s just not yet perceived and that makes fear and uncertainty hit low levels. If you could measure the volatility of the World Trade Center twin towers just before the terrorist attacks, what would it be? The risk was already there, just not yet perceived. The same theory can be applied to the moments that preceded the subprime crisis in 2008 and the failure of the geniuses of the Long-Term Capital Management in 1997.
Think of those horror movies, for example. It’s exactly when everything is calm and silent that the psycho jumps into the scene making us choke with the popcorn. The psycho was already there, hidden somewhere, we just couldn’t see him.
Absence of evidence and evidence of absence are not the same thing. Compare and contrast 2017 with 2018 and you will see how bad things can go. The complete absence of volatility, as we saw in 2017, is even more dangerous as it reveals complacency towards risk, implicating in more risk taking and leveraging. This opens the doors to unknown risks, the ones we are not even aware of and, therefore, not prepared.
Thinking that risk and volatility are the same can lead you to build a wrong map for your trading business and, by consequence, for your investments. As so wisely stated by Nassim Taleb, “Giving someone no map is much, much better than giving him a wrong map.”
The financial markets are composed of, basically, two kinds of individuals: the ones that don’t know and the ones that think they know.
Traders in the second group are doomed to fail. Because they think they know, they usually don’t leave room for errors, which inevitably occur. They are more worried about being right most of the time than actually making money. Situations have to adapt to their planning, not the other way around. They want to suppress volatility and kill uncertainty. ‘If’ is a forbidden word.
The ones in the first group acknowledge their ignorance and poor forecasting abilities. From start to finish, their process is filled with ‘Ifs’. They know they can end up being in the 30% slice of the probability in a 70% POP trade. They know chart reading is not fail-proof, a breakout can fail and a single Tweet can ruin their positions. So, they adapt their planning to situations, not the other way around.
By knowing they can be wrong, their errors become a source of information of what does not work, increasing their chances of success over the long run. Certainty becomes a ghost they don’t believe in.
I used to panic about mathematics. Ok, “used to” is wrong, I lie. I still panic. Palms sweating and all, I got the whole package.
You are probably unaware of the “Mathematical anxiety”, the anxiety about one’s ability to do mathematics. Specialists can name it whatever way they see fit. I still call it sheer bloody panic.
However, mathematics as a way to pragmatically describe natural phenomena is a fascinating thing to me; it’s magical (although the palms keep sweating). Let’s take a look at some numbers:
23 = 8
33 = 27
43 = 64
53 = 125
63 = 216
32 = 9
33 = 27
34 = 81
35 = 243
36 = 729
A = P (1 + R)X
This is the compounding interest formula. R is your investment’s rate of return, whereas X is time. By having time as the exponent we are submitting our investments to the wonders of Exponential Functions.
Traders focus too much on ROIs and forget time. So, instead of aiming for stratospheric returns in a short period of time, aim for the more realistic ones over a large time span and see what happens.
While inside the Extremistan, elevate your returns to the power of time.
– “I want to make money.”
Sorry, that’s not enough. We know you can do better than that. Do you want growth? Long term wealth building? A nest egg?
Carefully choose the path and have a plan for that because there is not a single investment or trading strategy that encompasses all the virtues we want: Profitability, Safety, and Liquidity. Here’s where the Trilemma kicks in. Straight from the Holy Trinity of Trading Part I, here’s the deal: choose two, let one go.
1. If you want a safety net, prioritize Safety and Liquidity. Let go of Profitability. This is your safeguard against a possible hardship.
2. If you want capital growth, prioritize Profitability and Liquidity over Safety. To accomplish this goal, you will take more risks. Most traders belong to this group.
3. If you want long-term wealth creation, you will marry Profitability with Safety. Liquidity stays on the sidelines. Think about someone who invests in art, properties, and precious metals.
One is not better than the other. In fact, we can run all three scenarios during our lifetime as the whys will naturally change.
In the Extremistan, know what you want.
There are two types of traders when it comes to breeding Black Swans: those who breed them to the left and those who breed them to the right.
Breeding Black Swans to the left means that traders will pair, incubate, nest and raise NEGATIVE Black Swans, the ones that will implode their trading account once they show up on the scene, turning traders into Thanksgiving Turkeys. It seems rather obvious that nobody would like to be this type of breeder.
What happens is that traders don’t even know they are breeding negative Black Swans. Their daily ration is made of fear, greed, and vanity. They trade leveraged assets without a thorough analysis, are obsessed with home runs, never keep track of their positions, trade naked when they should be covered, cut the winners short and emotionally attach themselves to losers. They don’t have money management rules nor they are organized and disciplined. They also like to hang out every once in a while with the Four Horsemen of the Trading Apocalypse.
Breeding Black Swans to the right, as you might’ve guessed, is the right thing to do. This type of traders will pair, incubate, nest and raise POSITIVE Black Swans, the ones that will grow their trading account once they show up on the scene, bringing success. To these breeders, losses represent the cost of doing business and winners are just another day in the office. They have a system and diligently follow its rules. They are disciplined, don’t trade assets they don’t know, don’t follow hot tips discussed on forums, don’t trust the “specialized” media and, above all, have unbreakable money management policies.
What type of breeder are you?
By definition, a system is a set of principles or procedures according to which something is done; an organized scheme or method. A set of detailed methods, procedures, and routines created to carry out a specific activity, perform a duty, or solve a problem.
In short: System = Structure
At Tackle Trading, we’ve created the System Development 101 course. If you want to start building your own trading system, this is the first place you want to go. It is a self-paced course, short and sweet, about 2 hours of content, covering the absolute basics, from mindset—the System-Thinking approach—to a full system outline. But what if you don’t want to write your own trading system? We got you covered as well:
For cash flow traders, the ones who enjoy making money as time passes, we have the Tackle 25 Covered Calls and the Cash Flow Condors systems. Passive income and compounding gains is the name of the game here.
For delta traders, the ones who like to speculate on price directions, we have the ultimate swing trading system S.T.E.P. It can be purchased as a standalone system or as part of the PRO Subscription—which we highly recommend.
Trading within a system will give you a structure, a method, a step-by-step, rule-by-rule framework to expose yourself to the Extremistan and be a successful trader.
If you would like to build a portfolio of long positions based on fundamentals, good. Have a system for that and design your well-diversified portfolio accordingly. Who knows which stock will be the next AMZN?
If you would like to trade, either position, swing, or day trade, have a system too. Diversification is still in play so you can grab the madness and irrationality of the markets and crunch them into profits. Small positions, well played within the S.T.E.P. System, plus a good handful of picks, like the ones from the Tackle’s weekly Scouting Reports will help you succeed in a world of extreme events.
Speaking of emotions, Matt Justice recently interviewed Jack Schwager (Market Wizards (1989), The New Market Wizards (1992), and Stock Market Wizards (2001)) on the episode #329 of the Trading Justice podcast. Here’s an interesting drop from that interview that will help understand why emotions and financial markets don’t get along very well.
To explain number 14, let me stage a tragedy in three quick acts:
Act I
You’re expecting bad news to hit the market pretty soon. You build your portfolio like Noah built his ark. In your mind, after reading from “specialists”, you are 100% sure that a huge market correction is lurking around the corner.
Act II
The day of the flood comes and you are prepared. Bad news hit. You saw it coming. You were right all the time. You close your eyes. Mission accomplished.
Act III
The market rallies. You start losing money like there is a hole in the ship. Your
A market that has a bullish reaction to bad news is a bull market. No tragedy can stop people from buying whatever is in front of them.
Our natural and linear train of thoughts can’t accept this as a true statement. Obviously, after the bad event hits everything becomes explainable, both the event and the market reaction. That’s the hindsight bias, a.k.a. “I-knew-it- all-along”. Yeah, you knew it all along but you lost money, right?
As stated by Nassim Taleb (yes, him again), “understanding is a poor substitute for convexity” We will never fully understand the world we live in and that’s OK as long as we shoot for convexity, that is, design a portfolio that makes money when things go well and lose a manageable amount when things go wrong so you can stay in the game to play another round.
As traders, we are not in the being-right-business but in the money-making business.
Remember the last U.S. Presidential Election? Let’s assume you don’t like Trump and you’ve heard the “specialists” saying that, although impossible, a victory from Trump would send the markets to Prehistoric levels.
Here’s the S&P 500 Index chart, from the moment Trump wins, November 2016, until November 2017. You’ve loaded your portfolio with bearish trades expecting to profit from a major correction.
Hey, Jack Dawson, do you want to be right or do you want to make money?
Having the right team of coaches, mentors and fellow traders to support you is the last advice we would like to give you.
No one can succeed alone in the Extremistan. No one. Not even the Buffetts and Soros of this planet. Every successful trader and investor out there has his/her own team of advisors and mentors. Why would you lie to be the exception to the rule?
Tackle Trading motto is Learn, Trade, Connect, Succeed. These aren’t just four words put together just to make a catchphrase but the path in which we believe.
The only thing we want is to help you succeed in the financial markets. That is our mission.
If you want to become a professional trader with the support of experienced coaches and also be a part of the warmest and most supportive trading community there is, sign up for a 15-day free trial and walk the Learn, Trade, Connect, Succeed path together with us.
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