Contents
Foreword
Preface
Chapter One: Failure Is Not Predictive
The Story of Bob Gibson
If at First You Fail
“One-Lot” Persists
Two Key Lessons
Chapter Two: What Is Not Important
Jim Rogers
Marty Schwartz
Reconciling the Divergent Views
Chapter Three: Trading Your Own Personality
Paul Tudor Jones
Gil Blake
Comparing Jones and Blake
Personality and Trading Systems
Chapter Four: The Need for an Edge
Money Management Is Not Enough
An Edge Is Not Enough
Chapter Five: The Importance of Hard Work
David Shaw
John Bender
The Paradox
Chapter Six: Good Trading Should Be Effortless
Zen and the Art of Trading
Chapter Seven: The Worst of Times, the Best of Times
When Everything Is Going Wrong
When Everything Is Great
Chapter Eight: Risk Management
Uncle Point and Kovner’s Dictum
How Not to Place Your Stops
An Option to Stops
Risk Management at the Portfolio Level
Quick Exits When Wrong
The Trader’s Dilemma
Underappreciated Reason for Avoiding Large Losses
It’s Not Rocket Science
Chapter Nine: Discipline
McKay’s Lapse of Discipline
Chapter Ten: Independence
A Personal Story
Chapter Eleven: Confidence
Chapter Twelve: Losing Is Part of the Game
The Link between Confidence and Taking Losses
The Rationalization of a Losing Trader
The Four Types of Trades
Willing to Lose
Chapter Thirteen: Patience
Century-Old Wisdom
A Master of Patience
The Power of Doing Nothing
The Wisdom of Sitting
Chapter Fourteen: No Loyalty
“The Market Was Telling Me I Was Wrong”
Jones Reverses Course
Caught by a Surprise
Surviving the Worst Trading Blunder Ever
A Bad Idea Transformed
Don’t Publicize Your Market Calls
Chapter Fifteen: Size Matters
The Power of Bet Size
The Danger of Size
Stepping on the Accelerator
Volatility and Trading Size
Correlation and Trading Size
Chapter Sixteen: Doing the Uncomfortable Thing
The Outperforming Monkey
The Inadvertent Experiment
Behavioral Economics and Trading
Why Emotions Affect Even Computerized Trading
Conclusion
Chapter Seventeen: Emotions and Trading
Expensive Excitement
You Can’t Win If You Have to Win
Impulsive Trades
Don’t Confuse Intuition with Impulse
Chapter Eighteen: Dynamic versus Static Trading
The Need to Adapt
Scaling versus Single-Price Entry and Exit
Trading around Positions
Chapter Nineteen: Market Response
Gold and the First Iraq War
McKay Gets Interested in Stocks
Dalio Is Surprised
A Most Bullish Report
Druckenmiller Is on the Wrong Side of the Market
The Invincible Position
The Submerged Volleyball
Buy the Strongest, Sell the Weakest
Correlation as a Clue
Chapter Twenty: The Value of Mistakes
Analyzing Your Trades
The Trader’s Log
Chapter Twenty-One: Implementation versus Idea
A Post-Bubble Trade
A Better Option
Chapter Twenty-Two: Off the Hook
A Unique Observation
On the Hook
Schwartz Saves Me Money
Chapter Twenty-Three: Love of the Endeavor
Appendix
About the Author
Little Book Big Profits Series
In the Little Book Big Profits series, the brightest icons in the financial world write on topics that range from tried-and-true investment strategies to tomorrow’s new trends. Each book offers a unique perspective on investing, allowing the reader to pick and choose from the very best in investment advice today.
Books in the Little Book Big Profits series include:
The Little Book That Still Beats the Market by Joel Greenblatt
The Little Book of Value Investing by Christopher Browne
The Little Book of Common Sense Investing by John C. Bogle
The Little Book That Makes You Rich by Louis Navellier
The Little Book That Builds Wealth by Pat Dorsey
The Little Book That Saves Your Assets by David M. Darst
The Little Book of Bull Moves by Peter D. Schiff
The Little Book of Main Street Money by Jonathan Clements
The Little Book of Safe Money by Jason Zweig
The Little Book of Behavioral Investing by James Montier
The Little Book of Big Dividends by Charles B. Carlson
The Little Book of Bulletproof Investing by Ben Stein and Phil DeMuth
The Little Book of Commodity Investing by John R. Stephenson
The Little Book of Economics by Greg Ip
The Little Book of Sideways Markets by Vitaliy N. Katsenelson
The Little Book of Currency Trading by Kathy Lien
The Little Book of Stock Market Profits by Mitch Zacks
The Little Book of Big Profits from Small Stocks by Hilary Kramer
The Little Book of Trading by Michael W. Covel
The Little Book of Alternative Investments by Ben Stein and Phil DeMuth
The Little Book of Valuation by Aswath Damodaran
The Little Book of Bull’s Eye Investing by John Mauldin
The Little Book of Emerging Markets by Mark Mobius
The Little Book of Hedge Funds by Anthony Scaramucci
The Little Book of the Shrinking Dollar by Addison Wiggin
The Little Book of Market Myths by Ken Fisher and Lara Hoffmans
The Little Book of Venture Capital Investing by Louis C. Gerken
The Little Book of Market Wizards by Jack D. Schwager
Cover design: Paul McCarthy
Copyright © 2014 by Jack D. Schwager. All rights reserved.
Published by John Wiley & Sons, Inc., Hoboken, New Jersey.
Published simultaneously in Canada.
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Library in Congress Cataloging-in-Publication Data:
Schwager, Jack D., 1948–
The little book of market wizards : lessons from the greatest traders / Jack D. Schwager.
pages cm. — (Little books big profits series)
ISBN 978-1-118-85869-1 (hardback) — ISBN 978-1-118-85862-2 (ePDF) — ISBN 978-1-118-85864-6 (ePub)
1. Investments. 2. Investment analysis. I. Title.
HG4521.S35782547 2014
332.6—dc23
2013045083
To Jo Ann
The most important person in my life
With love
Foreword
As a long-standing tradition each year during the Christmas to New Year’s break, I watch The Bourne Trilogy and read Jack Schwager’s Market Wizards series—The Bourne Trilogy for pure entertainment, the Market Wizards series to prepare me emotionally and mentally for the coming year of market combat.
No author—living or deceased—has created such a rich archive of printed material on the profession of market speculation as has Jack Schwager. An entire generation of traders owes a debt to the Market Wizards series and to Jack for at least some portion of its success. There is no doubt in my mind that the Market Wizards series will remain just as timely 80 years from now as Edwin Lefèvre’s Reminiscences of a Stock Operator remains today.
What novice and aspiring market participant would not want to spend time with and pick the brains of 59 of the world’s most successful and accomplished market traders? That is exactly what Jack Schwager’s Market Wizards books offer, bringing to us all the insights, processes of market operations, risk management principles, and key lessons from “Hall of Fame” stock, interest rate, foreign exchange, and futures market speculators.
As someone who has lived off trading profits since 1981, I am not a fan of the how-to trading books that provide the step-by-step details of another trader’s “secret sauce.” I am a staunch believer that all consistently profitable traders have two things in common: an approach to the markets reflecting one’s unique personality and aggressive risk management. At each reading of the Market Wizards books, these two components of profitable trading emerge in fresh new ways, challenging me to reflect on my own method of market speculation—past, present, and future.
The Little Book of Market Wizards brings new life to the Market Wizards series. In one sense, it is a CliffsNotes version—a quick reminder of all the interviews that have come before. Yet, in a different sense, the book brings remarkably new dimensions that only Jack Schwager could tease out of his extensive interviews with the trading greats.
The Little Book of Market Wizards is the thematic interpretation of Jack’s five dozen interviews over four books in which he boils down all the Market Wizards content into buckets or categories vital for trading success.
In addition to the themes of aggressive risk management and the need for a unique personalized trading approach, which I have already mentioned, The Little Book of Market Wizards identifies many other common denominators shared by successful traders, with extremely useful real-life examples for each. These themes range from patience to a need for an edge, from hard work to discipline, from losing as part of the game to dealing with emotions, and from handling losing streaks to making mistakes.
Most novice and aspiring traders errantly believe that the secret to profitable trading resides in identifying trade entry signals. Clever marketers, most of whom are not successful traders, feed this false belief, offering trading systems with a 70 percent to 80 percent win rate.
All market participants—newbies or veterans, those struggling to succeed or those with a long history of profitability, discretionary or systematic traders, and private speculators or hedge fund managers—will soon add The Little Book of Market Wizards to their list of favorite books on trading and the markets.
With The Little Book of Market Wizards I have found a new book to read at the end of each year. In fact, it will be the first book I will read, reread, and read again. Thank you, Jack, for another great gift to market participants.
—Peter L. Brandt, trader
Preface
Over the course of the past 25 years, I have interviewed some of the world’s best traders in a quest to discover what made them so successful—a project chronicled in four Market Wizards books. I sought to answer the question: What differentiates these traders from ordinary market participants? What common traits do they share that might explain their extraordinary success?
The Little Book of Market Wizards is a distillation of the answers to these questions. Essentially, this book provides an overview of some of the major insights garnered across the four Market Wizards books, spanning a quarter century. The Little Book of Market Wizards is not intended as a replacement for the books in the Market Wizard series, but rather as a pithy introduction. I have extracted the lessons that I thought were most important in the interviews conducted for the Market Wizards series. Individual readers, however, are likely to draw their own points of emphasis. This realization has become clear to me over the years when different readers continually mentioned different interviews as their personal favorites. Those who want to go deeper can, of course, follow up with the original interviews in the four Market Wizards books.
Readers with an interest in trading and investing who have not read the Market Wizards books should find this book provides a concentration of valuable trading advice in a concise and accessible format. Former readers of the Market Wizards series, however, should still find this volume useful as a convenient, concise review of the critical trading lessons embedded in the original interviews.
This book is not intended as a how-to on trading, nor is it a book on techniques for making trades. There are no suggestions or recommendations for making a fortune in the markets. Too many aspiring traders look for how-to books for a task that does not lend itself to such a formulaic treatment, while entirely missing the point that there are concepts that are essential to success in trading regardless of the methodology. Readers looking for the secret formula to making easy money in the markets will not find the answer here and are likely to be disappointed—although I would argue that they would likely be disappointed as well with the results of following the prescriptions of books that promise such an outcome. Readers who, instead, seek to build the foundation for potential success in the markets should find the ideas in The Little Book of Market Wizards valuable, if not essential.
Although, ostensibly, this book is about success in trading, in a broader sense, it is about success in general. Readers will find that most of the traits highlighted are equally applicable to success in any endeavor. I recall many years ago, after finishing a talk on the topic of success in trading, I was approached by one of the attendees. He introduced himself and said, “I am a minist
er, and I was fascinated by how many of the points you made were also critical to my success in building a congregation.” Now, it is hard to get further from trading than the ministry, yet the same key elements seemed to apply. I suspect there are some common principles of success, and I have simply discovered them through the perspective of great traders.
Chapter One
Failure Is Not Predictive
The Story of Bob Gibson
On April 15, 1959, Bob Gibson played in his first major league game, coming in as a relief pitcher for the Cardinals as they trailed the Dodgers 3–0. Gibson gave up a home run to the very first batter he faced—an ignominy suffered by only 65 pitchers in the history of the game.1 In the next inning, Gibson gave up another home run. Gibson got a chance to redeem himself coming in as a relief pitcher the next evening, but again was hit hard by the Dodgers. Two nights later, Gibson was brought in against the Giants with two outs and two runners on in the eighth inning and promptly gave up a double. After that game, Gibson sat on the bench for a week, and then was sent back to the minors. It is hard to imagine a more demoralizing beginning.