themselves that a winning trade is right in frontof them (which it is, but for different reasons). This gives them enoughcourage (meaning hope) to place their capital at risk. This whole process
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is formulated on the assumption that analyzing prices will somehowprovide the answer to where prices are going next. If that really werethe case then everyone would be a winner. There would be no losersto pay them. Because the business of trading is a zero-sum game, theentire environment cannot function that way. It is against the laws ofthermodynamics. Since we are playing in a world where only the losercan pay the winner, it must follow that the winner needs to do something different than the loser. Since the loser is absolutely convinced hecan make a loser out of someone else by reading a chart, and every otherloser is thinking the same thing, it follows that the winner must bethinking something entirely different in order to take their money withany consistency.The sum total of the loser’s trading is the inequality of the markets.Nothing else. The winner exploits this with as much certainty as theloser becomes the loser. There are 100 percent winning traders. I knowone or two of them. They don’t talk much. Why? They don’t have to.They don’t need to convince you or anyone else they know what they know.I personally only win about 70 percent of the time, but it doesn’t takea rocket scientist to see that is more than enough, even when I get“spanked” by the markets.Let me give you the basics on doing real “technical analysis.” I’llstart with a few premises that you must accept at face value. Don’t readbetween the lines. Leave that for the next loser.1. A price chart (in any time frame) is simply a pictorial representation of the sum total of all the market participant’s belief structures.In order to execute for an entry (hoping to profit), your beliefmust have been strong enough to do something, otherwise youwouldn’t be in. Since in order for a price to print, both a buyer anda seller must execute, then both believe they will profit. Therefore,they must believe completely opposite of each other. Since bothtraders have access to the same market information (the price), theymust have concluded two completely different things from thatinformation. (What that prices means.)2. Because every potential trader in every market is seeing it differently, every printed price will mean something different toeveryone. The price, which you must be concerned about, is the
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price the guy who is already in the market (long or short) is inat, and where he needs to execute to get out at. He must do thissooner or later. He cannot “lose” forever and cannot “win” forever.He must execute for either to happen. His prices are the ones youare looking for. These two prices are the only two that matter. Itdoesn’t matter what the end result to him is with those two prices;it only matters to you.3. When every potential trader has executed for an entry, in anytime frame, the market is vulnerable. When no one is doinganything, and what’s been done is done, prices must stop. They willstart moving when the loser decides to get out. The winner canafford to wait. The loser must execute on the same side that thewinner is already on. It cannot be any other way. If the winnerchooses to liquidate against the loser, both are now out. Therefore,there are less people in the market with unrealized gains or losses.4. Every “technical indicator” designed is based solely on combiningor dividing prices in some way. They are all “moving averages” invarying degrees of complexity EXCEPT ONE. That is volumeand open interest (V/OI).4 V/OI is the only “technical indicator” that chronicles the true state of what is happening inside theminds of the market participants. Nothing else can tell you whatis happening behind prices. Only V/OI can tell you when peopleare coming into or leaving the market. That’s why it was the original one used by traders in the first place and it is the only onethat really matters.Let this soak in a bit. What I am really saying is that the true trader,the consistent winner, is not concerned with any price or where prices“started” from. He or she is concerned with what it takes for people tobelieve strong enough, and with enough commitment, that they willplace their capital at risk. The true trader is looking for the place wherethey must change their minds enough to give up their position andleave the market. Since he knows that the loser is always basing thisdecision on price, he is only looking at which price they are changingtheir minds. He is only concerned with when they are in the marketand when they are leaving the market. The true trader doesn’t care atwhat price that happens, how far apart those prices are, or how much
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time it takes for it to happen. He is just watching for it. The true traderis thinking something like this:• What did people believe in order for prices to get here?• What will make them change their minds?• What price action will cause the loser to quit?• What price action will cause people to more firmly believe?• How long has the loser been losing and when will he quit?• How long has the winner been winning and where will he thinkenough is enough?The bottom line is that a price chart cannot “tell” you what islikely to happen next until you begin to interpret it from the losers’point of view. Any chart, or any analysis, can only be useful when youstart asking it to help you find the loser and uncover how he is thinking.You should look at any chart and ask questions of this sort:• Who is winning, who is losing, and why?• At what point are they likely to switch sides on each other?• Who is confused?• What will cause them to change their minds?• When will they quit?If you choose to continue using indicators to assist you in determining these places, always remember they were based on prices firstand solely. What will make this whole thing more difficult—it’s noteasy in the first place—is that the traders in question are always coming and going. Sometimes they use different time frames. Sometimesthey rely on different information from one week to the next, trading in different sizes than last time. When the market opens and closes,they initiate on the buy side at one point, and then they might initiateon the sell side, and so on. There are any number of things. The danceis developing an understanding of what the sum total of everyone isdoing from a net perspective and positioning yourself accordingly. Theone thing that is always a constant is that the loser really thinks thathe will be the winner and really expects his analysis, however it was done,to make all the difference. But the real reason a market has “support” or“resistance” is because it was at that exact moment everybody who wascapable of doing something had done so. Who cares why they did it?
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Now they are all waiting for the other side to quit first. Of course,that’s always the loser because the winner has a lead before he has to doanything, unless he wants to. That’s where all the money goes. Exceptfor the small part that becomes commissions.Before I forget, the same applies to the concept of fundamentalanalysis. People take what they read and assimilate from the fundamental sources and act on it by executing. The fundamentals have to convince someone to do something. In this respect its net result is the sameas the technical and, therefore, of no more value. The fundamentals seetheir final result as part of V/OI; and you can study that fundamentalcrap until you head caves in and it won’t help one bit. You still have todo something to profit and you will still be in the same market withthe same losers—or become that loser. That’s all I have to say aboutfundamentals.When I sat down to write this book, I intended it to be my trading story. It wouldn’t be complete if I didn’t tell that part of the storythat drove this thinking home. There were many trading lessons tobe learned from my experience of trading crude oil during the firstPersian Gulf War. Lots of life lessons, too. I talk about some of themthroughout the book, but this is the main one.In the fall of 1990, Saddam Hussein’s tanks rolled into Kuwait (itwas in all the papers). To any student of Middle East politics, that hadall the ramifications of leading up to World War III. Crude oil wastrading about $16.50/BBL. Something was going to happen and in abig way. Even in my ignorant trading state at the time, I had the presence of mind to buy crude. The market continued a steady climb withonly modest retracements until the bombing of Baghdad on January15, 1991. It then sank like a rock back to roughly $16.50/BBL shortlythereafter. In other words, by trading it wisely you could have beenlong up to roughly $37 and short back down. In less than a year, youcould have gotten disgustingly rich. As my pit trader friend says, thatwas “screw you” money.I was buying all the way up and pyramiding with open trade profits. The issue of money management was a lesson in itself. No one whois a successful trader pyramids like that. I was net long almost 200 cars(car is market slang for one futures contract) from about $27/BBL onthe average somewhere around Christmas. As before, I thought that was
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always how it was in futures. What I didn’t know was that open interesthad been dropping among the large speculators. In other words, thepros were getting out before the bombing, which most believed wascertain, and in fact did occur. Open interest from the small speculator(read: the public and those who work for them) had risen to a recordhigh. I had at least learned the lesson to run stops, so I knew I couldkeep some of it. But I really believed that the market would go to $40/BBL or more. With what I know now, it was ridiculous to assume thatany market would go to any price. It just goes where it goes. You can’t“predict” prices—only watch them and use them to your advantage;which was what the pros were doing.Because I knew that the bombing would do something to the market, and having assumed it would mean higher prices, I was going toliquidate into the highs that I thought were coming. Sometimes that’show tops happen and sometimes that is the right thing to do. I wouldhave made about $2.5 million at $40/BBL. I even went shopping forFerraris after New Year’s Day. I picked out a black one. I figured I hadfinally made it—in a big way.So here’s how it played out. The U.N. coalition forces begin theattack on Baghdad before dawn local Iraqi time. That was late at nightNew York time and the markets were closed. The overnight electronicsystem wasn’t trading yet so I had to wait for the New York MercantileExchange to open in about 12 hours. What could possibly happen inthose hours? Well, everything. The market ran to about $41/BBL in theFar East, which was open at the time, then started to slide off. In Londonit actually opened lower from the previous day. By the time New Yorkopened it was $10 lower. The panic that hit the open caused the market to slide another $3 in less than a minute or two. Of course withthe huge volume and knowing the rules of the game, all my stops wereelected near the low, far below my intended prices. It was enough of alow below my average to make me debit about $200,000. I was shellshocked. It couldn’t have been worse if I was in Baghdad! If I had boughtputs against my futures ANY TIME after Christmas I would have beennicely ahead, even with the huge premiums that I would have had to pay.To make matters worse, the trade played out exactly as I hadplanned, but because the brokerage house had no clearing relationship with the Singapore Mercantile Exchange (SIMEX) or the overseas
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markets, I lost. The owners of this company knew my position andeveryone else’s there, but like I’ve said before, very few brokerage owners have even the slightest idea of how to really do this business. Theycare even less for the guys who work for them. They don’t care at allabout clients, except as potential commissions.With the magnitude of the world event, the leverage we had, thesize of our total position, along with the potential for violent priceaction, you would think someone would have thought to protect ourexposure. I had done what I knew how to do, but there was morethat could have been done. At the time, I didn’t even know exchangescould have reciprocal arrangements with each other. At the very leastwe could have had the office open all night at that critical time andhad some kind of hedge account somewhere overseas. Knowing whatI know today, the whole thing was completely avoidable. I lost everything I had and spent years paying off the debt. That almost killed me.If ever I had a reason to quit, there it was.But here’s the lesson: Who was long? Who had to become a sellerto get out? Me; the guy reading the charts and forming opinions aboutprices. Since everybody had already gotten in on the long side, the only wayout was to sell. But there was no one else left to buy against that sellorder! No wonder the pros were out. They all knew that after studying what was going on behind the prices, the message was obvious foranyone who could see it: Time to liquidate. The best thing to do wasgo short against that last group of buyers. I’m sure a few did. I wouldhave. Knowing what I know today I would have done that in a NewYork minute and never lost a second of sleep. There is no doubt in mymind there is some crude oil trader, sitting on his yacht, somewhere inthe Caribbean, that I and all my clients paid for. If I ever find that guy,he owes me a “thank you.” Come to think of it, he doesn’t. Nobodytwisted my arm to do that trade.Now, here’s the thing I want to make absolutely clear. I was devastated at the time; but the entire experience was crucial to my development as a trader and as a person. If it had not happened exactly asit had, I may have never learned the importance of being concernedabout who the loser is and to avoid being that guy no matter what.A very sharp card player once told me, “If you are in a card game andcan’t tell who the patsy is, you are the patsy.” If I had made that money,
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I would have eventually lost it all anyway. The experience of the winwould have firmly convinced me that I knew what I was doing. Thecharts told me how to do it, they were “right.” I could trust them andnot have to think for myself. That is what the whole business of technicalanalysis is all about. It would have only been a matter of time before thissort of illusionary thinking would lead to loser after loser in any market I was trading. If I had made that money I might have never learnedthat. It forced me to reevaluate how I saw the structure of the markets.It taught me that trading isn’t about prices or buying and selling something; it’s about outthinking someone who does very little thinking inthe first place.The Art of the Trade is about knowing how people think and howthey act from their thinking. First, you need to know them as individuals, then what their thinking must be like when it’s formed intoa crowd, and how crowds behave. Then you need to know what willinfluence that thinking or behavior and realizing when that thinkingor behavior isn’t justified, when it’s likely to change, and at what pointthat will probably happen. Also, at what point will every individualwithin the group have no choice in the matter, their fate being determined in advance, without them even knowing it, at the exact momentthey put themselves into play, however long ago that was. In additionto all the concerns about individuals and groups, it is essential that youknow enough about your own method of thinking and know yourselfwell enough to ascertain when you are thinking no different than thecrowd in question, or in some other unique manner.This type of knowledge will never be a number on a screen, someline between two numbers on a screen, or some combination of thosenumbers. It can only be a factor of how well you understand the exactnature of the reality those numbers really represent and how well youknow your own ability to determine that.Where can you buy that for $195? How out of touch with realitywould someone have to be to think they could find it for you? Not tomention sell the exact same thing to someone else just as easily. Howself-deluded does someone have to become to think he can reduce thatprocess of critical thinking, intuition, and deduction down to curlycues, dots, ratios, lines, and numbers on a piece of paper for himself?How far beyond reason would someone have to be to now expose his
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money or his client’s money to a winner-take-all battlefield thinkingthat this was all there was to it?This happens every day. In fact, you do it now, don’t you?So, to close out this chapter, let me return to the “playpen.” I reallybelieve that shabby guy knew exactly what he was doing. Maybe themagic Coke bottle was some kind of personal amusement. Maybe he reallyunderstood the nature of the markets and those who participate verywell. I bet the clothes, the beard, everything was just his way of saying“F’ you” to all those losers. Maybe he just didn’t want the Fly wasting histime. I bet he already knew what I came to discover on my own: Findthe loser and take his money. Take all his money. Don’t even leave himcab fare. Take his house, his car, his boat, his airplane, whatever. Don’ttake his self-respect or his belief he can win because then he will stoptrading before you can take all his money. Don’t let him know he is theloser. Keep telling him he can win. Once he realizes he is the loser,the game is over for you. That is all you can get from him. Now youwill have to share all the money with him because he found out howto be the winner like you are.But don’t worry, all his friends think they are smarter than he isand smarter than you are. Just be patient and reel them in, one by one,until you own the whole block. There is a batch after them, too. Howmuch money do you want?I wanted to become the type of man the shabby guy was, andindeed I did become that man.
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Chapter 4
AdversityThe Trial of PrincipalA smooth sea never made a skilled mariner.—English proverb
W
ebster’s dictionary defines adversity as a “state of hardshipor affliction; misfortune.” It implies that what is happeningis unexpected or from outside your own doing. As mostpeople know, part of what we endure through life is self-created. Thisfalls under the concept of the unexpected because what right thinkingindividual would do something to hurt himself if he really knew better?Most adversity we suddenly find ourselves in; whether we have createdit for ourselves or not.When I chose to become a commodities broker, and later a truecommodities trader, I wasn’t prepared for adversity. Certainly not the51
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kind I had to go through. In fact, I considered adversity as a minorand temporary thing that you could get through by exerting enougheffort and then would not have to deal with it again. I really thoughtthat adversity was a state that “losers” frequently found themselves in,but not me for very long. What I came to discover is that adversity isa constant state of existence for anyone who is connected to the markets. The very nature of executing a trade puts you in a state of conflict.The people in the business itself are the type who naturally gravitatestoward conflict. They create adversity for themselves and those aroundthem as a normal course of action in both their thinking and interaction with one another. Adversity is constant in the business of tradingbecause the most common mode of thinking is “every man for himself.” Even though it doesn’t have to be this way, those involved seemto prefer it. The bottom line is that people really are functioning like“I’m gonna screw you before you can screw me. I’m going to do thateven if I don’t have to. Everyone could be a threat to me or stop mefrom getting what I want.” The worst kind of adversity, of course, is theself-created kind; sometimes that means our own trading. All the rest isjust kind of a “bonus.”I honestly wasn’t prepared for this type of harsh reality. Until Igot into the markets, I had defined adversity a whole other way. Thisbusiness of something constantly working against you was totally newto me. I suppose I was naive. Regardless, as the whole experienceunfolded I wasn’t prepared for some of the blows that would come myway, or the daily tension that would exist in addition to what the markets are capable of inflicting on you. But, as you will see, I found away to transform it to become a source of power. Ultimately, it helpedcontribute to my trading success. While you are reading all this, I wantyou to try and remember that through all of this the public was, andstill is, entrusting brokers with their hard-earned cash. They really believethey are working with the brightest and most professional people in the worldof finance. We can make it look that way. After all, we know how todouble or triple money every month, right? I really wanted to be thatkind of professional and work with people who thought the same, butthat didn’t happen. No matter what I wanted to believe about myself,I was still in the environment that was far from my perceived ideal. Whatdid happen was a period of years full of constant adversity. Here are a
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few examples of things that went on around me on almost a daily basis.This is the short list, by the way.Things would disappear off my desk. By “things” I mean: a brandnew lap-top computer (with all my records in it); my Mont Blanc pens;countless numbers of staplers, notepads, rolls of tape, or any kind ofbasic office supplies; plane tickets; calculators; books, newspapers, andmagazines—all with information I wanted to keep or use; equity runs1;sales leads, sales material; charts, research, business cards of market contacts; sometimes my lunch (or parts of it); even brand new clients whosepaperwork and check were waiting to be processed. It got so bad I eventuallybegan carrying around every possible item I needed to run my business in a bulging briefcase I never let out of my sight. I did this becauseI never knew when something that I needed wouldn’t be there. I’msure a lot of it was done for no other reason than to watch me blowmy stack, which would elicit shrieks of laughter from the children thatworked there.This buffoonery wasn’t limited to just the office. One brokeragehouse I was at decided to throw a huge party to celebrate a big month.They rented a charter boat to cruise around Lake Michigan for a fewhours in a Bacchanalian fit of revelry. One of the guys in the office wasa little different. The other children enjoyed picking on him like kidsdo in a schoolyard, you know the type. When his back was turned the“brokerage-yard bully” threw his suit jacket overboard. He lost his keys,wallet, and lots of cash. He was pissed.“The boss” said, “Gee, that’s too bad, you should be more careful,”and roared with laughter along with the other six-year-olds. The poorguy spent a week or two sorting out the mess of getting keys, creditcards, driver’s license, and so on. This type of moronic behavior is agiven in this business. Apparently, everything you own or use to runyour business is raw material for private or public amusement.I frequently saw people doing cocaine at 7:00 a.m. at the companytrading desk while processing orders—this after being out all night longdrinking and more. Imagine trying to place orders, check on orders,or move orders when the guy you are talking to can barely see straight orwon’t stop talking. Worse yet, he does a line while you are talking tohim. This wasn’t one or two isolated incidents, this happened everywhere. Sometimes they would even get the coke from the owners.
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Paychecks would bounce. I’m not talking a few hundred bucks—I mean checks for $10,000 or $15,000. Imagine the headache that couldcause. On payday some guys would leave the office as soon as they gottheir check, go down to the bank it was drawn on and cash it, evendrive out to the suburbs in some cases. They knew that if they waitedtoo long it would be no good. On any given day, between the 10th and15th of the month, there are scores of brokers walking around downtown Chicago with literally tens of thousands of dollars in cash in theirpockets. I shudder to think of the crime wave that could cause if anenterprising mugger read this. I guess the owners figured that if youdidn’t take your money the moment they gave it to you, you must notreally want it, or something equally stupid.I would go to lunch, come back, and find the office door locked,the lights shut off, and everybody gone. I would find out later that theowner wanted to take everyone out to the ballgame or something.“Sorry, we couldn’t find you, so we just left.” Imagine the needless anxiety if I had positions on and I had to spend the rest of the day hangingout by a pay phone. Thank God I had quarters. Imagine the problemsclients have when they expect to reach you when the markets are openand they can’t. I remember one time this happened and I went downto the pay phone in the building lobby. There was only one phone.Standing next to it was a rather well-dressed man. When I went to pickup the receiver, this guy actually said, “You can’t do that, I’m expecting a call from my broker.” If I wouldn’t have seen the humor in thatI would have cried. You have to remember that in the late 1980s cellular telephones were not cheap or common. Because I was tied to theoffice 12 hours a day at this point in my career, I never needed a cellphone even if I could afford it. If the office was locked—I was out ofbusiness.Guys would start a brokerage house knowing full well that itwould be gone in a few months. They would hire a bunch of hungry brokers and turn them loose on the phones. The money wouldroll in. Absolutely none of the bills would be paid. Once the quoteswent down, or the phones were turned off, or the landlord startedthe eviction process, the owners would pack up and go somewhereelse. Maybe one or two of the brokers were in on it. Everyone whoworked so hard to build a business for themselves would literally have
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the rug pulled out from under them. Who knows what happenedto the clients? I’ll tell you how fast this can happen. At one place itwas just another normal day, a few of us worked until about 8:00 p.m.As we were all leaving, the owner, who was working late, stopped usto mention what a great job we were all doing and how he wouldsee us all tomorrow. I came in at 7:00 a.m. the next day, only 11 hourslater, and the entire office was empty. No desks, no phones, no computers, nothing; it was all gone—moved out. It was probably all soldto a liquidator days before. The owner was simply waiting for us toleave before calling the movers in and didn’t want us knowing the jigwas up. I never saw him again. Within a few minutes one or two ofthe other guys started showing up. One broker, who didn’t want tobelieve what had happened had actually happened, volunteered thiscomment for the rest of us: “Maybe we just moved and they’ll be hereany minute to take us over to the new office. . . .” For all I know heshowed up every day for a week waiting for that to happen. “Thankyou, and good night. You’ve been a great crowd.”The constant practical jokes in the office were simply beyondbelief. Guys would find dead animals in their desk drawers, phonehandsets crazy-glued to the cradle, Tabasco sauce or worse in the coffeepot, fake client inquiries for million dollar accounts made to arookie from a phone in another part of the office. People were told thattheir parents were just in a car crash and they needed to call the hospital. The owner would pay commissions to someone who he thoughtwasn’t working hard enough in rolls of pennies. Someone would comeback from lunch and find his entire desk and his telephone lockedin the storage closet; listening to the phone ring until he could findthe building engineer with the key. Sometimes whoever did it gave theengineer $20 to say, “I don’t have the key, try tomorrow.” Until callerID came out, one of the favorite things to do if a client pissed someoneoff was to call the local pizza place in the client’s hometown. The broker would order a dozen pizzas for delivery to the client. Everyone inthe office would whoop it up in the background while someone elseyelled into the phone, “Hurry up, can’t you tell we’re having a party?!”A lot of this nonsense was really cruel. I remember one incidentin particular. In one office, there was a black guy who was a rookie.It was his first time ever in the business. He was from the South Side
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and came from a poor family. He really had ambition. He wanted outof the ghetto. I really admired him. He was constantly being teasedwith the “I have a dream” thing. People asked him if he wanted totrade “fried chicken or watermelon futures today.” One time somebodycame in the office wearing a KKK hood and bouncing a basketball.It was criminal what those men put him through. He finally quit andfiled a discrimination suit. Of course, the company was gone by then.Let’s not forget the general back-office mayhem. You’d ask a secretary to mail an investment package to a prospective client and she’dforget or refuse to do it. If you brought it to the attention of the owner,he’d brush it off. It would turn out he was sleeping with her and thatwas the only reason she had a “job.” Phone calls were routinely ignoredor not put through. Your Series III registration would never make it tothe NFA, or the check for the fee would bounce. My mail was neverdelivered. We would run out of account forms or sales material and itwould take days or weeks for someone to get more. That week’s “manager” of the place would lose the keys to the front door or not show upat all. The fax or copier would run out of paper or toner and it wouldtake days or weeks to fix. We’d run out of numbered order tickets andhave to resort to blank paper to track trading (a serious NFA violation).Someone would institute a “new policy” but forget to tell anyone. Thenwhen you wanted something done it was always, “Didn’t you knowabout the new policy?” Then, you’d have to do it all over again a different way.