<s> WILEY
The most important element in becoming a successful traderis having a sound background from which to trade, consisting of a strong base of acquired knowledge derived frombeing active in the markets through time. Building thisbackground is in some ways the easiest and in other waysthe most difficult thing for a trader to accomplish. Tradingexperiences, observations of all kinds, a focus on what ismost important and a clear understanding of business principles —all are necessary ingredients in a strong tradingbackground. Awareness and patience are the requirementsfor developing it. Without a sound background, your trading cannot be consistently successful. With it, you can develop clear, correct ways of thinking and confidence inyour trading judgment.In today's fast-moving world, some traders try to bypassthe crucial first step of developing a sound background,and then rationalize the lack of background for the rest oftheir careers. But the opportunity to develop the neededbackground is always there.Td like to share with you the background that underliesmy own understanding of the markets. The experiencesthat went into building it are varied and demanded a lotof time and hard work. If you can learn the principles thatthese experiences illustrate, you'll find that the same prin-
Steidlmayer on Markets
t**.,\ciples figure in your own experiences äs a trader. I thinkyou'll also learn some things about today's markets.
TRUST AND FREEDOM
In my formative years, from 1944 until I completed highschool in 1956, I gained both education and knowledge.Education provides a Format and method for learning, butknowledge comes through experience. Thus, a lot ofknowledge develops on a subconscious level. I was notaware of this subconscious learning process when I wasgrowing up, but in later years I found that I had a largestorehouse of knowledge to draw on in order to gain a goodunderstanding of any subject. I had stored in my subconscious a data base of real knowledge that came from variedexperiences.I grew up on a ranch in California, where much of myearly learning came from being exposed to the family business. Skill was greatly respected in my family, but moreimportant than skill was integrity. A person who was disloyal, dishonest or untrustworthy wasn't needed, no matterhow skilled he might be. If someone my family was doingbusiness with turned out to be untrustworthy, we stoppeddoing business with him, no matter how rewarding thedeal might appear to be on an immediate basis. We usedthis principle to avoid major losses in the future, and Istick by this principle to this day.In my family, no one was condemned for making mistakes. We understood that all knowledge came from making mistakes. This idea became dominant äs I ventured outinto the world and got bumped occasionally. "That was agood experience," my parents would say. "Learn from it.4.
Earh' Lessons's^'
and go forward." My parents didn't criticize or analyze themistakes we boys made. We did that on our own. Thebürden of facing up to our mistakes and learning from eachexperience was on our shoulders, no one eise's.Patience was always stressed because it reflected anddeveloped our inner self-confidence. We weren't expectedto show quick results; it was understood that "Slow andsteady wins the race." My parents encouraged me to takemy time to find a field that I enjoyed rather than one theywould like me to pursue. The object was to do things andto find out what I could and couldn't do — then I'd be ableto make choices for the future.Later I learned about the American Indian practice ofputting a young man of eleven or twelve years old out aloneon a mountaintop or in the desert to spend several dayssearching for the meaning of his life. The revelation mightcome through a sign, or perhaps through a dream; eithermight reveal the young man's destined path. I was raisedin the same spirit, and it has become an important part ofmy background äs a trader. Today I enjoy the same freedom to search and continually reevaluate my life's goals.Home was a base from which we could venture and asanctuary to which we could always return. My parentsassured us that we would always be welcome to stay withthem no matter how bad things were. But we were responsible to ourselves, to those surrounding us and to thecommunity. If we ever violated that trust, we might loseour sanctuary.Success was viewed äs temporary. We were encouragednot to get too excited when things went well or too depressed when things didn't, but to remain emotionally inbalance. Time was the most important measurement of all.A person or an idea had to stand the test of time. Newideas and dreams were not disregarded, even if they didn't
THE IMPORTANCE OF FIXING THE GATE
When I worked for my father, I learned not to run awayfrom a problem and to finish what I started. Our philosophy was to do the Job once, and do it right; then move onto the next one. My father never understood why peoplewould fall to recognize a problem or, if they did, why theywouldn't deal with it until forced to do so. We had manywooden gates on our ranch, and from time to time theywould need repair. When our ranch hands went througha broken gate, they would open and close it without stopping to fix it. By contrast, my father would fix the gatethen and there. That was his way.Years later, when the markets changed in 1969, the trading method I had developed no longer worked — i t was"broken." Although I was trading in the markets every day,I didn't want to face the reality of the broken gate. OnceI realized that I was running away from the problem, justäs the ranch hands had ignored the broken gate, I motivated myself to stop and correct the problem.I also learned from my father the importance of the last10 percent of any Job. He always said that this was themost important part of any task—the part that requiredthe greatest discipline. This final effort separates successfrom failure; it separates the person who always has tenprojects 90 percent done from the person who successfullyfinishes each task; it separates the many climbers who reachthe 25,000-foot level on Everest from the few who reachthe summit. The same philosophy applies to trading. The
willingness to follow through on a task marks the differencebetween those who are almost successful and those whoachieve their goals.In my family, we also learned to recognize the abilitiesof others. Some people always have more talent than you,some less. Don't compete outside yourself; try to be thebest you can within your own abilities. But learn fromobserving yourself and the many types of people aroundyou.
THE SECRETS OF ORDER AND CONTROL
In August 1946, when I was seven years old, my fatherand I were moving a tractor from our valley ranch to ourranch in Nevada. As we reached the foothills around fourin the afternoon, about four hours from our destination,we got a flat tire and stopped at a tire shop in Orville,California.In those days, truck tires were complicated to take apartand put back together, so at about ten to five they werestill working on it. My father was anxious to get on withthe trip. The mechanic wanted to quit work at five, so bothmen wanted to get the Job done. I watched them take thetire apart trying to put it together again and again, emotionally beating at the tire with a hammer and swearing atit. Finally, I piped up, "Why don't you put the tire backtogether the opposite way you took it apart?"I can still see the mechanic's face äs he turned his headtoward me —his face covered with dirt and sweat —andsaid, "Well, how is that, sonny?" I proceeded to teil himhow, and five minutes later we were on our way.
Steidlmayer on Markets
Early t£ssons
I learned that by watching you can perceive a sense oforder. Emotions and impatience don't produce results; observation and understanding do. I've found the same to betrue in trading.When working the land, there was pride in the differentchores we were given. A Job had to be done according toStandards that were acceptable to our parents and to theranch. More importantly, it had to meet our own Standardsfirst, before we even showed anyone the completed Job.In my family, your Job was you —a reflection of your Standards.The full-time ranch workers did a good Job with the cashflow crops, but not äs well with the fill-in Jobs, which keptthem occupied during slack times. One of these Jobs wasirrigating the back pasture. The back pasture wasn't levelled, so you couldn't get water across it. If you were irrigating a bean or a corn crop, which was planted on levelground, you were expected to make sure water got overevery inch. But everybody slacked off on the fill-in Jobsbecause no one ever checked them.But when I was asked to irrigate the back pasture, Idesigned a system of dams to get water all over the field,which had never before been fully irrigated. No one everknew, but that didn't matter; I got personal satisfaction outof doing it. I realized that if I stayed within the acceptedStandards for the Job, I wouldn't learn anything. Bystretching myself beyond the Standards, forcing myself todo more, I learned a lot.Another experience taught me to have confidence in myabilities and to take control of a Situation. I was riding withour dogs on the back edge of a trailer that my dad waspulling behind the pickup truck. We were moving downa rugged road at about 25 miles an hour. Suddenly, thetrailer hit a bumpy Stretch of the road, and I realized that
I couldn't hang on because there was no place to grip onthe back of the trailer. I pictured myself falling off the truckonto the rocky road. I could see that if I feil, I wouldprobably break my arms and possibly die. I panicked. Istarted to scream, and the dogs began to bark, but my dadcouldn't hear over the noise of the pickup and the rattleof the bounding trailer.Fortunately, I figured out a way to avoid disaster. Bylifting my body off the truck with my arms and tilting myweight back towards my head, I was able to absorb thebounce in my arms and keep my balance. I rode that wayfor about three-quarters of a mile, until we got to the shop.I never told my father about this experience, although I'dbeen really scared by it. I learned not to accept disaster.In this episode I fought off disaster with my brains and mymuscles and I gained confidence in my own abilities äs aresult.
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LOOKING BEYOND THE SELF
One Saturday, when I was about eleven, I wanted to huntducks. It was a rainy day with a strong south wind, andthere were ducks and geese all over the ranch. My brothers and I had to move about 1,500 sheep from one ranchto another before I could go hunting. My father warnedme not to cut across the fields with the sheep. But äs weproceeded, I grew more and more anxious to go huntingbecause we were passing right by the ducks and geese.Finally, I told my brothers that we should take the sheepacross the field to get to the other ranch faster. As weapproached the middle of the field, about 150 sheep gotstuck in the mud. Now, if you can image a sheep up to.9.
IF"
Steidlmayer on Markets
her belly in mud, with her wool füll of mud — each weighing more than I did —and multiply that by 150, you canimagine what we were dealing with.All the ranch hands got off at noon on Saturdays, butnot that week. Everyone worked until 3 P.M. that day,pulling sheep out of the mud — I was too small to movethem myself. No one complained, but I realized that myselfish interest had given a lot of people a lot of extra work.From that experience I learned not to put myself first.To me, success in trading also requires unselfishness.When you're in the pit, you have an Obligation to othertraders and brokers in the pit to contribute to the wellbeing of the marketplace, not just to seek your own profit.The marketplace comes before you or any other individualtrader.
GLIMPSES OF MARKETS AT WORK
Observing the ranch hands trading in used guns and carsand my father trading in land, equipment, and crop markets taught me to take advantage of situations rather thanletting them take advantage of me. At harvest time, myfather wasn't speculating for big gains. He wanted a fairprice for his crop in order to make a normal profit for hiswork and his capital investment. If the price at harvesttime was fair, he sold; if not, he held and stored the grain.When buying, my father wanted a fair price äs well. Iremember going with my father shopping to buy all thegroceries for the camp. He knew the price of everything,and he always bought sale items. If the price was too highhe wouldn't buy; he would substitute or go without. Hehad a list of what he thought each item should cost, and• 10-
he'd check off the list when he got to the counter to makesure they didn't make any mistakes in adding up the bill.When my father had the Option of buying some usedfarm equipment, he behaved just äs the ranch workers didwhen they were buying a used car. If the car was undervalued, they would buy it; if it was overvalued, theywouldn't. At the cattle sales, my father would say, "Youcan make a lot of money just being a sharp buyer. But ifyou overpay, there's no way to get it back." I learned thatif you buy something over value, time is against you; butif you underpay, time is on your side. This became theunderpinning of my approach to trading commodities.My father had one rule in buying property: six monthsor a year after you buy the property, your neighbor shouldbe willing to pay what you paid for it. That was his measurement of value. He was an optimistic man, but oneimprinted by the experience of the Depression. Althoughhe went out of his way to avoid debt, he could see that inthe postwar world values were changing, making it necessary to use debt judiciously. He knew that the focus ofthe ranch should not be on daily operations, but on landacquisitions. So he would never borrow to finance dailyoperations, but he would use credit to buy land.In buying property, my father had different time frames,different needs and different motives, depending on theSituation. He once planned to buy a ranch with his brothersat an auction. It was a sealed bid auction, at which everybody had the right to raise the bid 10 percent. On our wayto the auction, he told me that the other people therewould have more money than he did, and that he wouldhave to scare them out of the trade if he hoped to get theland. To do so, he bid a lot higher than what people thoughtthe land was worth, so that there wouldn't be any afterauction rebids.11
Steidlmayer on Markets
t —•
When his bid was announced, a hush feil over the crowd.Many of the Farmers in the area told my father that theywould seil him their land at that price. No one eise triedto raise the bid, and my father accomplished his goal.This is one thing that a good broker or trader does. Manytimes they use a higher than normal price to attract traders, realizing that in the short term they were overpaying;but within a half hour or an hour, that price would be agood one.In another instance, my father acquired a piece of property by playing a waiting game. He feit that nobody eisewas going to buy the property, so he had plenty of time.The attorney for the estate dickered over the price for ayear and a half, but my father knew that the estate had toseil it. He gambled on the chance that no one eise wouldbuy it, and he won. He got the property for about 40percent less than the original asking price. Again, the relationship of market conditions to value and to the buyer'sand seller's needs was critical.The point is this: My father was always prepared, andhe always had a game plan. When he started ranching backin 1916, he knew what he was going to buy and how hewas going to accomplish his plan; and he had the patienceto do it over time. He knew when to move quickly andwhen to move slowly. I was always after him to buy otherpieces of property that were outside his game plan. Buthe never would. He always refused to buy marginal properties because he feit that he should never buy anythingbad or seil anything good.My father explained these ideas to me, and although Ihad had no previous market experiences of my own, Ibegan to see the difference between buying a used car,buying a gun, buying a piece of land or selling crops. Thesewere all different markets, and depending on the needs of
the individual, there were different ways to approach eachmarket applying the same principles of value to differentconditions.There was a wool buy er who came up from Stockton,California to buy the tag ends of the pelts and the woolthat wasn't sold at shearing. My father noticed that everytime the buyer came up, the wool market would pick up.He asked the wool buyer about this, and Mr. S. explained,"That's what I'm in business for." This was the first inklingI had that markets could be read and understood.My father was aware that Mr. S. had a deadline fromwhich he was operating. The wool market was active onlya couple of times a year. If my father didn't seil his woolto Mr. S. within the deadline, he would miss the opportunity to seil. He also noticed that the frequency of Mr.S.'s phone calls and visits would increase äs his deadlineapproached.My father used to trap skunks and raccoons along theriver, dry the pelts, and seil them for Christmas money.Mr. S. would come up to our ranch in November and paya big price for these ratty pelts, äs a loss leader to get mydad in a good mood. He would also make a low offer forthe wool to be sheared later in the year. My dad wouldnaturally refuse to seil the wool at this low price.Mr. S. would call again in a month or so with a higherprice and would continue to call more and more frequentlyuntil the deal was struck. I watched my father play hisdifferent prices and frequency of contact off against thedeadline for selling the wool in an active market. In thisway, an amicable deal in which both people made moneywas eventually struck. In fact, my father always said thatboth sides had to make money for any deal to succeed.Whenever my father sold wool, cattle, sheep or any othercommodity, he feit that the information about the sale was
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Steidlmayer on Markets
Early Lessons
between him and the buyer, and that others who might
road, and people did park on our property at that time,
but we had never received any payment for this. To compensate, we wanted $1,000 for the acre.The representative said he would talk to his home officeand let us know. Three or four days later, he accepted thedeal. I feit that I had done a good Job and created a dealthat was fair to both sides. The power Company ended upstaying for three years; my mother made $3,000 instead of$225, and I got a 5 percent commission.To my father, $75 cash represented real value, while Icould see that the value of the land to the power Companyrepresentative far exceeded $1,000. He needed to be closeto the road and to be able to use the high property whilethe rest of the county was flooded in the winter. So themarket worked in this case to find a fair price. It movedup quickly from $75 to $1,000 because it was way undervalued at $75.It also may have been undervalued at $1,000; we don'tknow because thee was no other comparable reference point.I didn't ask a price high enough to evoke a lower counteroffer. So to this day we don't know for sure whether the$1,000 price was really a good deal or not. I was satisfiedat the time, but maybe I could have done better.My father believed that it's very difficult to get aheadand be successful. He always said that the main thing isto be consistently good over a long period of time. Playthe compound interest game; build your base slowly andsurely. A small increase on a big base is better than a bigmove on no base.The key in business is to make sure that you win in thelong run and that you can sustain yourself on the downside. If you can handle the downs, you'll always be successful—that was my father's theory. This same principlehas worked äs part of my trading strategy.
14
15
be interested had no right to the Information. So I learnedearly that transactional data is more important Informationin any market than nominal quotes. (Nominal quotes arebid and offer prices, representing the general parametersof what a price could be, not necessarily confirmed by anactual transaction. Data from a real transaction is much
more meaningful.) By being active in the marketplace, yougain Information. This has held true throughout my tradingcareer. The more active I am äs a trader, the more infor-
mation I have in my hand.My only business deal involving land occurred when Iwas sixteen. My mother had ten acres on the outskirts ofColusa, California, on which a normal farming profit wouldbe about $20 an acre per year. But the parcel was too smallto be worth farming.A Company with a contract to run a powerline across thevalley wanted this high ground next to Highway 20 äs a
storage area for its trucks, towers, and equipment becausemuch of the rest of the county was flooded with water inthe winter. They offered us $75 rental for one acre of theparcel for a year. My mother thought that was a good offer,but I said I could get her $1,000. I remember my dadsaying, "It's your choice, Mother. You can take a sure $75,or you can take Pete's promise of $1,000."The next day, my mother decided to go with me. I metthe power Company representative in the afternoon andtold him what we got for similar properties. I explainedthat there were fairgrounds across from the property andthat if we rented it to his Company, we wouldn't be ableto get the parking revenues we usually received. This wasa slight exaggeration. A fair was held every year across the
Steidlmayer on Markets
My mother was more of a general guide for me. Shewould say, "Go out and do things. You can't learn withoutexperience." Her point was that when you go beyond yourknowledge base, you're not going to be successful immediately, but you will gain experience that expands yourbase and ultimately propels you forward.I came to realize that, like everyone eise, I was surrounded by a big bubble that kept me close to my family,my economic base and my community. I became convinced that I had to move outside that bubble to be successful. I respected my community and its values, but Ihad to set myself apart from the goals and aspirations ofothers. This realization set the stage for the next phase ofmy development.
In 1957, I decided to go to College. I wanted to break withthe strong social tradition that you had to go to College todo things. But I finally enrolled äs an accounting major inthe University of California at Berkeley because I wantedto see for myself what College was like. I already knew thatI wasn't going to work for anybody eise, and that the gradesI got in school weren't going to make much difference tome; I just wanted the experience of College. If I found thatthere was no benefit there for me, I wasn't going to stay.As far äs I was concerned there would be no stigma aboutleaving.
THE MARKETS BECKON
My first awareness of any organized markets came atBerkeley during 1957 and 1958. There was a recession inthe economy, but stock prices were rallying. Friends ofmine were doing quite well with their stock holdings, andI became intrigued and started to watch the market. Inoticed the contrast between economic forecasts and whatactually happened.I believe it was in the spring of 1958 that an articleappeared in Fortune magazine about a father and son team16
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Steidlmayer on Markets
of commodity traders. They started out with $10,000 andmade more than a million trading through Merrill Lynch,before losing almost all of it and ending up with a twentyfive or thirty thousand dollar profit after commissions. Iwas amazed that so much money could be made in a shorttime from such a small starting base, so I began to readabout the commodity markets, follow them and ask peopleabout them.I got recommendations on trading corn, wheat, soybeansand soybean oil from various brokerage houses. I startedtrading, but I was unsuccessful. In fact, I inherited $500from my grandfather, who died at the age of 99, and I lostit all in one day. That was sobering. It took my grandfather99 years to save that money, and I blew it in a day. Fortunately, I didn't have any more money to lose. In fact, inall my early learning experiences, my trading stake wasnever more than five or six hundred dollars. So this partof my education wasn't expensive.During the summer of 1958, my father and my unclesdecided that my cousins and I could farm some doublecrop land (wheat followed by beans) and use the earningsto fund our College educations. I had a dream that by planting the crop at the end of June and harvesting it in OctoberI was going to make $25,000. To do this, everything hadto work perfectly — I'd need a big crop and a high price.As the summer progressed, I kept refiguring my expenses and my revenues, and I kept lowering my expectedprofit-down to $15,000, and $10,000. When I figured thatit was only $6,000,1 harvested the beans and got a roadsidebid of 10 cents a pound. I laughed at the bid and said thatI wanted 17 cents, the price beans had traded at the yearbefore. Instead, I watched äs the price went from 10.25to 10 to 9.75, and so on, down in 25-cent increments to6.50 in December. Only because I had had a good yield
could the 6.50 price allow me to repay my bank loan. Iended up with nothing for myself.After I sold the beans at 6.50, I watched them go up toabout 14 by the following April or May. I was very fortunate that I hadn't had much money to lose. I'd been ableto stop my losses at zero, which a lot of people in thecommodities business can't do.M any commodity traders go through experiences likethe one I had that summer. My plan had been based on atotally unrealistic idea — a set of dreams and hopes ratherthan facts. When a trade is developed this way, you aregenerally forced to exit it at the bottom of the move, andyou are unable to take advantage of any price rise thatfollows. Your trade may really have been right, but youlacked the knowledge, experience and discipline to pull itoff.
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DISCOVERING THE BELL CURVE
I had my first awakening in the spring of 1958, when Itook a statistics course at Berkeley and was introduced tothe concept of the bell curve. I still remember the pageof the textbook where it said that through the bell curve,out of apparent chaos comes a beautiful cosmic order. Thishit home because I knew that my trading observations andexperiences up to this time lacked a sense of order. I begantrying to visualize the organization of the seemingly chaoticactivity in the commodity pits —the chaos that everyoneeise accepted unquestioningly —within the structure of thebell curve. My Job, I decided, would be to find a way tobring order to that chaos, and the bell curve, I sensed,would be the way.
Steidlmayer on Markets
College Years
At this point, the idea remained simply an image, withno hard work or evidence to back it up. But it remainedin the back of my mind for some time, waiting to be developed.My personal trading had moved from being based onwire house recommendations to newsletter recommendations. Although both good and bad recommendations wereavailable, I feil into the common trap of following the badrecommendations and being afraid to take the good ones.So I realized that I couldn't just buy a trading programfrom a wire house or a newsletter; I had to create my owntrading program.After about a year and a half at Berkeley, I decided thatI had learned all I could in College, yet I wanted my degree. I feit that I had a natural bent toward trading, and Ienjoyed it, but what I was learning in schcol wouldn't bedirectly relevant to my career äs a commodities trader.But when I realized that I could acquire a learning processwith which I could go forward and gain experience thatwould ultimately produce knowledge, I began to look atschool in a different light. So after my sophomore year, Idecided to give Berkeley one more year, and I doubledup on all my units so äs to finish my program within thattime.During the summer of 1959, I took a finance course thatintroduced me to the principles of value investing throughthe classic work of Graham and Dodd. Their book, SecurityAnalysis, made a lot of sense to me because I had alreadylearned from observation and from talking with my fatherthat, in any market, the relationship between price andvalue was the key —that price away from value always represented opportunity. I made the immediate association ofusing the bell curve to find value in the marketplace, although I still didn't see how I was going to do this. But I
did feel that a merging of the bell curve with Graham andDodd would provide a sound basis from which to approachthe market.
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•21 •
JOHN SCHULTZ AND THE MINIMUM TREND
Now I had entered a new phase of my trading career, inwhich I realized that I had to broaden my knowledge baseif I hoped to be successful. So I went out and bought everybook I could find about commodity trading, markets, Stocksand successful traders. I tried to glean from these books aprogram whereby I could see what was happening in themarkets. I began to realize that although the people I wasreading about had different approaches and different styles,they must all be trying to do the same thing because theywere all unsuccessful. After all, almost 90 percent of thepeople in the commodity markets lost. Commodity markets were not recommended for anybody.So what was the common thread running through thebooks? The diagrams were really beautiful, but they wereall trying to predict the market, and that was the problem.Graham and Dodd had opened my eyes to value. Theyhad explained that value could be seen in the present tenserather than on a predictive basis; that you could understand the present by laying out all the conditions that currently prevailed and then note the changes that took place.One of the best books I read at this time was a shortdissertation called A Treatise on Charting by John Schultz.(It was self-published and is no longer available.) In reading this book, every thing came together for me. I realizedthat there was a lot of potential in the marketplace andthat, to take advantage of it, I had to have a way of making
Steidlmayer on Markets
decisions. I had to know what I was doing, why I was doingit, and under what conditions I was doing it. Then I wouldbe able to see and Interpret changes äs they happened.That was the beginning of my formulation of a plan fortrading.I spent Christmas vacation in 1959 on a tractor, plowinga 500-acre field on the family ranch. As I completed moreand more of the field, I watched the pattern of furrowsbeing created in the field äs the irregulär shape of theunplowed portion grew smaller and smaller. At the sametime, I was thinking about my commodity trading experiences, the books I had been reading and the ideas I hadgotten from my education. The focus of all this was JohnSchultz's book on chartmg. At the end of his treatise, Schultzhad written, "The best idea is still out there." As I plowedand thought, I gradually realized, 'Tm the one who's gotit."The key idea on which I seized was Schultz's concept ofthe minimum trend. Schultz defined the minimum trendäs the smallest unit of market activity. The advantage ofthis concept was that the minimum trend was one-sided:it could only get bigger, never smaller. The simplicity ofthis attracted