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You Can't Become Rich In Your Pocket Until You Become Rich In Your Mind | ||||
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A successful trader is rational, analytical, able to control emotions, practical, and profit oriented==== But still, Im sure a lot of your professors believe in the efficient market hypothesis. ==== Right, and thats probably why theyre professors and why Im making money doing what Im doing. Also, I think its amazing what you can do when you have real money on the line. A person in an academic setting might think that they have tested all possible types of systems. However, when you have real money on the line, you can start to think pretty creatively. There is always something else to test. I think that the academic community just hasnt tested many of the approaches that are viable. Certainly, if you just spend a short time doing an academic study, youre not going to find anything significant. It cant be any other way. If it were, everyone would be rich. But if you spend every day of your life researching the markets and have adequate computer support, you can find stuff that works. ==== What are the traits of a successful trader? ==== A successful trader is rational, analytical, able to control emotions, practical, and profit oriented. ==== What advice would you give to a friend who wants to be a trader? ==== Leam a lot of statistics. Learn how to use a computer. Find some systems that work. Develop some simple risk management rules. ==== Are there any books on the markets that you would recommend to other people? ==== We give our new traders three books when they start: your first book, The Complete Guide to the Futures Markets [Jack D. Schwager, John Wiley & Sons, 1984], The Handbook of Futures Markets, by Perry Kaufman [John Wiley & Sons, 1984], and The Commodity Futures Game: Who Wins? Who Loses? Why? by Richard J. Tewles and Frank J. Jones [McGraw-Hill, 1987]. Then there are some fun books I recommend, like your Market Wizards, which is a good motivational work. We also have loads of other books in our library, and we let traders choose which other ones they wish to read. ==== What kinds of misconceptions do people have about the markets? ==== They believe you can make tons of money with little work. They think you can make 100 percent a year doing a little bit of research on the weekends. Thats ridiculous. ==== They underestimate the difficulty of the game and overestimate the payoff? ==== Exactly. Also, some people blame everyone except themselves when they lose money. It galled me to read in a recent Wall Street Journal article that some guy actually won a lawsuit against his brokerage firm because he lost all the money in his account. The point is that it wasnt even a matter of his broker giving him bad advice; he was calling his own trades! He sued the brokerage firm, saying that they shouldnt have allowed him to trade his account the way he did. I believe its a free country, and if you want to trade, you should have every right to do so, but if you lose money, its your own responsibility. ==== What mistakes do most people make in the markets? Im talking about actual trading mistakes rather than misconceptions. ==== First, many people get involved in the markets without any edge. They get in the market because their broker told them that the market is bullish. That is not an edge. However, to tell the truth, most small speculators will never be around long enough to find out whether their system could have worked, because they bet too much on their trades, or their account is too small to start. ==== So there are people out there who actually might have a good idea that could make money, but theyll never find out because when they first try to do It, they bet too much and theyre knocked out of the game. ==== Exactly. ==== Do you trade overnight sometimes? ==== We have a twenty-four-hour operation. I also have a hand-held quotation device that I use to check the markets when Im home. ==== Isnt that kind of overbearing? ==== Yes, it is. Although I check the quotes every night, I try not to overdo it, because I do have a tendency to become compulsive. ==== Are your night people under instructions to call and wake you in the middle of the night if something important happens? ==== Yes. ==== How often does that happen? ==== Not that often. Maybe four times a year. ==== What do you do for recreation? ==== I go to a lot of sporting events, and I do a fair amount of reading. Im interested in psychology and philosophy. I also read lots of self-improvement books. I probably overdo it, though. I notice that the more memory books I read, the worse my memory becomes. ==== Do you still play basketball yourself? [Trout was captain of his college team.] Dont you miss it? I mean, at one time it was obviously pretty important in your life. ==== No, because Im on to the next big thing: trading. ==== Did you ever entertain the possibility of making the pros? ==== Coming out of my senior year in high school, I had hoped to play for the pros, and I thought that maybe I could. However, after playing my first year in college, I realized that the people were too good. I could have played in Europe. In fact, a lot of my former teammates are playing professionally in Europe, but some of them make just $10,000 a year. I didnt want to do that. ==== Do you take any vacation time? ==== I have only had three days off in a year and a half. ==== Is that because when you go on vacation youre thinking that every day you are away is costing you X amount of dollars? ==== To some degree I do that. Also, I feel I need to be around to supervise my staff and make sure that the trading is going properly. ==== Do you sometimes feel that youve become a captive to your own creation? Wouldnt you like to be able to just go away for a few weeks somewhere and forget everything? ==== I would, but to trade successfully you have to do it full-time. I allot myself ten vacation days a year, but I never take them. I firmly believe that for every good thing in life, theres a price you have to pay. ==== What are the trading rules you live by? ==== Make sure you have the edge. Know what your edge is. Have rigid risk control rules like the ones we talked about earlier. Basically, when you get down to it, to make money, you need to have an edge and employ good money management. Good money management alone isnt going to increase your edge at all. If your system isnt any good, youre still going to lose money, no matter how effective your money management rules are. But if you have an approach that makes money, then money management can make the difference between success and failure. ==== What are your current goals? ==== To make a 30 percent return each year, with no peak-to-valley drawdown greater than 10 percent. ==== Any other final words? ==== Just that Im excited and confident about the future. If I ever dont feel that way, I will stop trading. I had found Trouts track record-a combination of very high annualized returns and extremely low drawdowns-almost mystifying. Of course, although a combination of high return and low risk is rare, it is not unique; in fact, a number of the other traders I interviewed in this book (and in Market Wizards) also exhibited this profile. Why then do I say mystifying? Because from what I had heard about Trout, I knew that his trades were based largely on signals generated by computerized technical trading systems. I have spent many years developing and evaluating technical trading systems. Although I have found systems that make nearly as much as Trout does (based on average annualized return), these systems invariably exhibit much greater volatility. Drawdowns of 25 percent in these systems are commonplace, with worst-case drawdowns even exceeding 50 percent- Certainly, the volatility of these systems could be reduced by cutting back the leverage (i.e., the number of contracts traded per $100,000). Doing so, however, would lower the returns down to mediocre levels. I have never found any systems that could even remotely approach Trouts performance in terms of return/risk measurements. In fact, every trader I Interviewed who displayed a combination of high return and very low risk invariably proved to be a discretionary trader (i.e., a trader who relies on his own internal synthesis of market information to make trading decisions, as opposed to using computergenerated trading signals). How, then, does Trout do it? I got the answer to that question in this interview. Part of it has to do with his reliance on systems that are based primarily on statistical analysis as opposed to more standard, trend-following approaches. However, perhaps the major factor is that Trouts exceptional skill in timing the entry and exit of his positions, by his own estimate, accounts for fully half of his return. I could give ten CTAs the exact systems we use, and some of them still wouldnt make any money, he says. Thus, once again, were talking about synthesis of information that cant be computerized (e.g., the noise level on the floors) accounting for the superior performance. In other words. Trout may reach his trading decisions in a similar fashion to that of system traders, but he executes these decisions like a discretionary trader. Trouts basic message is twofold. First, you have to have an edge to beat the markets. Everything else is secondary. You can have great money management, but if you dont have an approach that gives you an edge, then you cant win. This may seem obvious, but many traders enter the markets without any evidence that they have an edge. Second, assuming you have an edge, you must exercise rigid risk control to protect against those infrequent events that cause enormous, abrupt price moves that can quickly decimate overleveraged accounts. And, as demonstrated in Trouts own thesis, the probability of sharp price moves is far greater than suggested by standard statistical assumptions. Hence, risk control is essential. The trader who gets wiped out by a sudden, large, adverse price move is not simply unlucky, since such events occur often enough that they must be planned for. It is instructive to compare Monroe Trouts message with that of Blair Hull (see Part VI). Although their trading methods are completely different-Trout is a directional trader, whereas Hull is an arbi-trageur-their assessments of the key to successful trading are virtually identical: a combination of having an edge and using rigid money management controls. |
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