Please note at the time of publishing this Guest Blog on the 17th August 2018 the Books that are under the ‘Recommended Reading’ bit of this Blog are not yet in Wheelie’s Bookshop - my intention is to shove them in their over the next few days. However, all the Books he mentions in the Bibliography are in the Bookshop.
Thanks again to Michael for producing this excellent work.
There is much that I have learned from the stock market, but there remains even more that I don’t know. My own weaknesses are financial analysis and that I have yet to experience a market where everything is going down rather than up (and many other weaknesses I’m sure). You don’t need to know a lot. It’s very easy to make money in the stock market if you can exercise discipline and a sound approach to risk management. As long as the market exists there will always be new ways for people to spoof it. Look at the Online Blockchain interview in recent times with Clem Chambers – it is complete baloney and yet the price still multi-bagged.
Understand the cost
There is a cost to everything. Of course there is. Just like instagram, on Twitter you are only seeing highlight reels. Not everyone makes money on every trade. Not everyone makes money trading. It’s very rock star to sit by the pool, make more money than you used to make in a month, then close your laptop and go for lunch and enjoy the rest of the day free. But anyone who claims it’s easy is either 1) selling you something, or 2) lying. If large, relatively low risk returns were simple, then everyone would be doing it. I love full time trading but there have been months where I made more than my last annual salary and months where I couldn’t turn a single penny, and at that point you begin to wonder if it was all such a good idea. You need mental resilience and the capital to afford it too.
Warren Buffet got lucky. Does he have incredible skill? Of course. He spent 12 hours a day locked away reading for years on end. But for every Warren Buffet, there are thousands more like him who didn’t make it through no fault of their own. That’s luck, and that’s life. If you go all in on each trade each time you can get rich quick but eventually you will be wiped out. Even if something is almost certain to be nailed on, you will inevitably experience the surprise at some point.
It’s the low risk trade that can actually be the highest risk – because it is deemed low risk you position size higher because of it. A personal example of mine was the 100% CoS workovers in Anglo African Oil & Gas back in May 2017 (CoS is ‘Chance of Success‘ and workovers are a process in the Oil & Gas Industry where they try to stimulate a Well to increase production).
Cash is King
A company that only had £100,000 on the balance sheet at the end of December and has £30,000 operating cash outflow per month probably needs funding in April to continue operations (£30,000 x 3 = £90,000 meaning £10,000 left). You can often avoid buying into obvious situations where the company will issue more equity in a discounted placing by understanding a company’s cash balance by looking at the balance sheet and the statement of operating cash flow.
On balance sheets, never trust the ‘headlines’ in the results. Directors say "strong balance sheet"? It’s probably propped up by intangible assets. Profitable? Check and see if it is net profit and a profit figure before exceptional costs. A one off disposal for £10m profit means they actually made a £9m loss if profit after tax is only £1m. There are games played here. Learn them.
Liquor, ladies, and leverage
The three ways to go broke according to Charlie Munger. Leverage should be used with caution (though that does not imply the other two should not) as you can end up owing more than you deposited. Just because you can take a position for £20k but only need to put up £2k of cash doesn’t mean that you should. A 15% swing downwards in this example would relieve you of 100% of your cash and owing £1,000 more (I believe recent ESMA rules on CFD and Spreadbetting will change this somewhat to not allow accounts to go into negative equity but this does not remove the need for extreme caution with leverage).
Take your profits, play probabilities
The "what if I’d held my entire line at 300% up how rich would I be?" thought is dangerous. You need to be in it to win it but only a gambler would not change his position according to the risk/ reward, and gamblers always lose in the long run. I don’t see any poor bookmakers.
An amateur places their entry on the support line, and their stop just beneath it. This is the obvious place for stops and so price will head towards the liquidity and shake a lot of stops out. It’s better to actually enter the trade where those stops are as you can then exit much quicker if the trade appears to be wrong. Support zones, and not support lines. Everyone sees the same chart; think about where other market participants are getting in and out by looking at previous highs, support, trendlines etc. The closer you enter to the point where the trade would be wrong, the higher the risk/ reward is in your favour.
Charts can be boring, but there is nothing boring about making money.
People use charts because they work. It doesn’t matter if they’re a self-fulfilling prophecy or not, charts give you an edge against those who don’t use them or can’t read them accurately. I spend at least an hour every night going over charts after the market close, but this allows me to continuously generate trading ideas from stocks making all time highs, heavy volume (signs of accumulation/ seller clearing), and stalking entries on stocks I like but do not yet offer a high probability entry.
Review your trades
If you constantly find yourself making the same mistakes, then you’re in a position to fix them. Ultimately, you should be looking at 1) how to generate more winning ideas, 2) how to make more money from your winners, and 3) how to lose less money from your losers.
You don’t have to trade every day. Boredom trading used to be a problem for me and the only winners were the brokerages who earned their commissions. Losses hurt your physical and emotional capital. Ask yourself "is this trade likely to make me money?" and if the answer is no, sit on your cash. This question also allows you to focus on what matters – asking if a stock is good is not the right question, as just because a stock is good does not mean that it will go up. Thinking objectively in terms of risk/ reward will greatly benefit your trading. Having a 5% stop to hit a 50%+ gain – what is the probability of that ever happening?
Don’t trade your P&L
Points, not pounds. As soon as you start thinking about winnings and losses in terms of reality you allow emotion an entrance into your head. If I ever thought about just how much actual money I shifted around into some of this AIM junk and what that money can buy in reality I’d go bananas.
**WD Note - I try to think in Percentages %, not Pounds £ - it definitely helps me stay sane (ish)**
Further on emotions, don’t allow a stock to infiltrate your speculation on price. A business is not the share price. It’s just a number. A stock is a financial instrument used by a trader to increase his capital. Nothing more. Nothing less.
The art of the big bet
There are times when you should bet big (it makes no sense having conviction buy positions the same size as normal trades) but these risks should never be big enough to knock you out. Let your P&L grow by lots of smaller wins and use these small wins to finance larger risk when the opportunity comes.
You’re going to make mistakes
I make mistakes all the time. Just try not to make the same ones repeatedly, and it’s the really big mistakes that cost you which you can defend against. If you’re not making mistakes then you must be a very good trader, so please contact me immediately so I can learn from you. Don’t beat yourself up!
You can make money or you can make excuses. But you can’t make both.
I’m convinced there are only three types of traders: Trader 1, Trader 2, and Trader 3 (I do not recall where I read the three types of trader concept, but I have added my own detail as it really stuck with me).
Trader 1 has no ideas and no plan, and makes his decisions based on what he reads on bulletin boards or how he feels. He has a big enough win every now and again to keep his balance afloat and occasionally tops up his trading account with money from his salary. He wants action and excitement, and so he tries to trade every day. He may even openly admit he is just a gambler and after a bit of fun. Hitting the jackpot is his first priority. I call him liquidity.
Trader 2 has ideas but does not have a plan, and tries his best to follow these ideas based on logical thought and what he sees in the market. Trader 2 is capable of taking money from the market because it’s not difficult, but every now and again he’ll do something idiotic that will set him back quite a bit, or dent his confidence at the time where the opportunities are in abundance, because he didn’t have a plan. Making a profit is his first priority.
Trader 3 has ideas and also has a plan, and tries hit utmost best to stick to it. He understands that losers average losers and is not afraid to buy or sell based on indicators that he has back tested and found to be reliable. Trader 3 has a habit of banking profits into price strength and consistently makes money from the market based on following probabilities in various scenarios that he has researched. He knows he doesn’t have to trade daily, and waits for the right opportunity. Protecting capital is his first priority, because no capital means no trading.
Everyone is a genius in a bull market
I started trading in March 2016 and went full time in January 2017. In that period markets have only ever gone up. Aside from Brexit and the recent Dow Jones plunge there has been very little volatility or periods that have really challenged anyone who has only been trading a few years. There will be entire trading teams in the City that have only ever known low interest rates. At some point, there will be a serious correction, where the true test will come. If you can keep your capital whilst others are losing theirs, the opportunity will be huge coming into the early bull market. A full time trader cannot afford to lose their capital in sub-standard trades.
"What we learn from history is that people don't learn from history" – Warren Buffet
Like the Tulip Bubble where a single bulb could buy prime Amsterdam real estate with servants for six months, Bitcoin leapt from $3,000 a coin to $20,000 in just under twelve months. But those who were calling it a bubble at $5,000 missed a three bagger move. Those who bought at $20,000 are nearly 75% down. Lose your opinions, not your money. The price is always right.
"I truly feel that I could give away all my secrets and it wouldn’t make any difference. Most people can’t control their emotions or follow a system"
Thank you for taking the time to read my post. I am always happy to answer any questions through my Twitter (@vilage_idoit), but please be aware that I cannot give advice as 1) I do not wish to be responsible for your financial decisions, and 2) this would be illegal.
The bibliography contains some classic investment tomes, though for trading it is rather more useful to read around behavioural finance, human psychology, and why people do what they do. Most of the books are available in Wheelie’s Bookshop.
Regards Michael @vilage_idoit
Books, articles, and videos referred to within the text:
Barret, Clear. (2015). Aim – 20 Years of a Few Winners and Many Losers. [online] Financial Times. Available at: https://www.ft.com/content/ea2bd724-140c-11e5-abda-00144feabdc0
Croft, Ed. (2016). Managing the Monkey. [online] YouTube. Available at: https://www.youtube.com/watch?v=K174mUaSV4U
Jefferies, Tanya. (2016). How Certain is a 10-Year Profit from Investing in the Footsie? [online] This is Money. Available at:
Lefèvre, Edwin (1923). Reminiscences of a Stock Operator. United States of America: John Wiley & Sons.
Lynch, Peter. (1994). Beating the Street. New York: Simon & Schuster.
Lynch, Peter. (2012). One Up On Wall Street. New York: Simon & Schuster.
Minervini, Mark. (2017). Think and Trade Like a Champion. United States of America: Access Publishing Group.
Minervini, Mark. (2013). How to Trade Like a Stock Market Wizard. United States of America: McGraw-Hill.
Tharp, Van. (2007). Trade Your Way To Financial Freedom. New York: McGraw-Hill.
Thomas, Guy. (2011). Free Capital. Great Britain: Harriman House.
Recommended reads from the author
Carter, Chris., Clegg, Stewart., Kornberger, Martin., Schweitzer, Jochen. (2012). Strategy: Theory and Practice. London: Sage Publications Ltd.
Dubner, Stephen., & Levitt, Steven. (2014). Think Like a Freak. United States of America. William Morrow and Co.
Jiler, William. (1990). How Charts Can Help You in the Stock Market. Vermont: Fraser Publishing Co.
Kahnemann, Daniel. (2012). Thinking, Fast and Slow. Great Britain: Penguin Random House UK.
Mandelman, Avner. (2007). The Sleuth Investor. New York: McGraw-Hill.
O’Neill, William. (2009). How to Make Money in Stocks. 4th ed. United States of America: McGraw-Hill.
Syed, Matthew. (2016). Black Box Thinking. Edinburgh: St Ives plc.
Weinstein, Stan. (1988). Secrets for Profiting in Bull and Bear Markets. United States of America. McGraw-Hill.