Hanging Out with the Designated Driver
December 29, 2020
December 29, 2020
Hanging out with the designated driver will help you achieve alpha while everyone else is hungover from the party
If you listen, you will still hear the debate regarding the importance of trading techniques or psychology impacting the bottom line. In effect, it is both; in a word, it’s a “focus on the process” with the main feature being risk management. It is this concept that becomes blurred by people believing it has something to do with the money when the market does not care about your money.
I have gained your attention via memos and direct messages where I related to you that, “My market research and strategy development takes the legends literally. Where my group and I bracket off the media noise and the industry propaganda to focus on a process for optimal low-risk high-reward “one-way trades.” In other words, why take a risk trade for an average profit, instead of waiting for a few big trades each year can achieve 30%+ annual return with less than a 2% MDD.
But do not take my word for it, the above idea is taught by Brett N Steenbarger PhD., director of trader development at Tudor Investment Corp. He confirms what I learned by reading all the work of real market wizards and listening to all the videos produced by the legends, including Paul Tudor Jones II, and applying their rules seriously.
What they all have in common is 80% to 90% of their profits come from 10% to 20% of their trades. This is also a fact, according to Brett. A study revealed that “across different traders and trading firms, 90% of all profits were attributable to 10% of all trades.”
Here is a key take away that “a large percentage of trades have to be ‘scratched.'” Brett puts it this way, “A cardinal skill in trading recognizes that trade is wrong before it hurts the P/L. Time and again, I have seen good traders exit trades when the trades fail to move in their direction; bad traders exit only after the trade has moved against them.” Otherwise called risk management.
On the other hand, opportunity management is crucial with the lion’s share of profits coming from big trades. This applies to any time frame you trade. If you are a day trader, you are looking for the range days and annual one day return days. Days that move from open to close is the low and the high of the day, and that range is 2% or as large as 8% or 13%. We witnessed such days in the 2020 bear market.
To manage the opportunity is not as some think in putting on an opening trade size that will maximize returns from the excellent trade. Instead, Contrary Thinker uses and teaches a quasi-Turtle leveraging strategy.
Here is what Dr. Steenbarger found is that the worse traders zig when they should zag, being pulled and pushed by money, their trailing P&L. Whereas, “The best traders can identify superior trading opportunities—and are patient in waiting for those…”
The secret of trading success is the ratio of your largest position size relative to what you usually trade. Contrary Thinker takes the masters seriously in this opportunity management. Our strategies will leverage up to 10-to 1 and 20-to-1, depending on the liquidity of the market.
Successful in general and, more importantly, Alpha comes from the ability to identify—and wait for—immensely profitable opportunities and then take maximum advantage of those. While 20:1 position sizing may be too rich for your blood, the principle is valid: success is a function of putting size on for the logical, not psychological, reasons.
So, risk and opportunity management boils down to scratching trades that do not move promptly as expected, while at the same time milking the opportunity, once it is clear.
The truly unsuccessful traders are moved by money, client and peer pressure, or pride.
Brett provided this antidote, “I recently asked a trader why he hung onto a long position for an unusually long period. He looked at me somewhat quizzically and replied, ‘Because I had the bottom!’ He was willing to sit through a choppy trade if it went in his direction and if nothing happened to convince him that he did not identify the bottom. That one trade made his entire day.”
Jack F Cahn, CMT
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