<s> The Art of theTradeWhat I Learned (and Lost)Trading the ChicagoFutures Markets
Jason Alan Jankovsky
John Wiley & Sons, Inc.
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The Art of the Trade
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The Art of theTradeWhat I Learned (and Lost)Trading the ChicagoFutures Markets
Jason Alan Jankovsky
John Wiley & Sons, Inc.
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Copyright © 2008 by Jason Alan Jankovsky. All rights reserved.Published by John Wiley & Sons, Inc., Hoboken, New Jersey.Published simultaneously in Canada.No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any formor by any means, electronic, mechanical, photocopying, recording, scanning, or otherwise, except aspermitted under Section 107 or 108 of the 1976 United States Copyright Act, without either theprior written permission of the Publisher, or authorization through payment of the appropriate percopy fee to the Copyright Clearance Center, Inc., 222 Rosewood Drive, Danvers, MA 01923, (978)750–8400, fax (978) 750–4470, or on the web at www.copyright.com. Requests to the Publisher forpermission should be addressed to the Permissions Department, John Wiley & Sons, Inc., 111 RiverStreet, Hoboken, NJ 07030, (201) 748–6011, fax (201) 748–6008, or online at http://www.wiley.com/go/permissions.Limit of Liability/Disclaimer of Warranty: While the publisher and author have used their best effortsin preparing this book, they make no representations or warranties with respect to the accuracyor completeness of the contents of this book and specifically disclaim any implied warranties ofmerchantability or fitness for a particular purpose. No warranty may be created or extended by salesrepresentatives or written sales materials. The advice and strategies contained herein may not besuitable for your situation.You should consult with a professional where appropriate. Neither thepublisher nor author shall be liable for any loss of profit or any other commercial damages, includingbut not limited to special, incidental, consequential, or other damages.For general information on our other products and services or for technical support, please contactour Customer Care Department within the United States at (800) 762–2974, outside the UnitedStates at (317) 572–3993, or fax (317) 572–4002.Wiley also publishes its books in a variety of electronic formats. Some content that appears in printmay not be available in electronic books. For more information about Wiley products, visit our website at www.wiley.com.Library of Congress Cataloging-in-Publication Data:Jankovsky, Jason Alan, 1961The art of the trade: what I learned (and lost) trading the Chicago futures markets / JasonAlan Jankovsky.p. cm.Rev. ed. of: Dancing with lions / by Trader X. c1999.Includes bibliographical references and index.ISBN 978–0–470–13899–1 (cloth)1. Jankovsky, Jason Alan, 1961- 2. Commodity exchanges—Illinois—Chicago—Biography. 3. Capitalists and financiers—Illinois—Chicago—Biography. 4. Businesspeople— Conductof life. I. Trader X, 1961- Dancing with lions. II. Title.HG172.J36A3 2008332.64'4092—dc222008014643Printed in the United States of America10
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We do not see things as they are; we see things as we are.—Anaïs Nin
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Contents
Read Me FirstForewordIntroductionChapter 1Chapter 2Chapter 3Chapter 4Chapter 5Chapter 6Chapter 7Chapter 8Appendix AAppendix B
ixxiiixixThe Early YearsThe Day I Bought the LowTechnical AnalysisAdversityThe Meaning of LifeThe Trading PoliceThe Last WordIn ConclusionFor Traders OnlyInsight into the Person of “Trader X”
More from the AuthorPostscriptNotesIndex
11329516579103109115133155159167175
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Read Me First
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his is my second book for John Wiley & Sons. It was originallypublished under the title Dancing with Lions by Trader X.Although it was received well by readers, it was not considereda mainstream book by the trading community. It was only after my firstbook for Wiley, Trading Rules That Work: The 28 Essential Lessons EveryTrader Must Master, had established itself as a good seller that my editorKevin Commins approached me with the idea of writing another book.I told him I already had written another book years ago, which hadbeen published with a different publisher. The book had initially soldwell, but it was now out of print. I told him that I thought this bookcould reach a new and wider audience with a new publisher. Kevin readit and felt it had good insights. However, it was, in his words, “a littlerough.” He suggested that I update it and let him see what Wiley thought.The result is The Art of the Trade.As my career has grown and changed, I have had to let go of manyof the original points of view that I held as a young trader. Dancingwith Lions was published at a time in my trading career when both theindustry and I were going through changes that eventually would alterthings significantly. In the case of the markets, technology has given
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birth to fully online market access, global market opportunity, and ahost of innovative new trading products; something that had never happened before. During this time we also saw the tragedy of 9/11 and theinevitable financial repercussions that a seminal world event like thatcan create. The markets went on to recover more quickly than I could.In my case, I was knocked-flat for years.My trading suffered dramatically during the months after 9/11. Itwould be unfair to the reader to suggest that all markets can be tradedby all traders at all points in time. My emotional and mental state wasdevastated by 9/11; I was not capable of a strong market presence. Thedemons I thought I had exorcised to achieve the level of success thatI once had had come back in greater force and numbers. I lost everything and eventually quit the business for a period of time. My thinking was so convoluted that I honestly felt that I would never achievemy goals as a trader or even as a person. I went through the hellI describe in the first chapter for a second time. I laugh about it now,but when someone asks me now about the experience I usually reply,“I went from being Trader X to being Waiter X. . . .” Yes, I actuallywaited tables for a few months. I was serving drinks to people I couldhave bought and sold a few months earlier. It was humiliating.I think it is important for readers to know that now more thanever, I sincerely believe that trading is more an art form than a science.As an artist, there will be times when we are at our best, times whenmaybe we are just getting by, and times we are under extreme adversity. As I mention throughout this book, a lot of what we perceive tobe our unique adversity is sometimes self-created. If we are self-awareenough, we can see this relationship. If we are committed to our success enough, we can learn to stop creating adversity for ourselves aswell as resolve the adversities that we have created. Indeed, some of thebest art ever created has come from an artist who has struggled throughextreme personal tragedy and pain, only to find his or her divine sparkof excellence that now expresses itself on the canvas, in stone, or on themanuscript page. In my opinion, trading is no different and could beconsidered an equal expression for this spark of excellence. Some people are familiar with Vincent Van Gogh’s issues; try learning about thelife of Galileo or Jackson Pollack if you want to see how far adversitycan take you. Those men amaze me with their tenacity and skill. Theywould have made great traders.
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In my case, I experienced a deeper and more purifying kind ofadversity, and part of what made those years good for me (in the end)was the final acceptance that no matter the circumstances that I findmyself in, it is always my response to them that either moves me forward or moves me back. Sometimes people get beat down so hard thatthey just lie there and quit. I came very close to that point for thesecond time in my life. I remember the day and the hour. I rememberthe climb back in the darkness. Before you pass judgment, you mightbe there too one day. . . .I couldn’t control the events that happened to me any more thanyou could. Some group of fanatics (without using a harsher word)chose to do something horrifying and affect millions of people negatively; and we all suffered to some degree. The fact that in my case itmeant the potential to lose large sums of money, lose opportunity, andalmost lose my sanity (again) had nothing to do with the actual eventsthat transpired. That remained my choice in the end; even if I didn’t seethat at first or was unwilling to accept it at first. Making the consciouschoice to pick up and start over was entirely mine and even thoughI discuss this in the book, I know that truth at a deeper and muchmore complete level than ever before. The trader I am today is a different trader than I was then. To the outside observer that relationshipmay not be fully apparent, but inside me I know the difference. I thinkthat in my years since the catastrophe I am better equipped. I have notrecovered to the level I was prior to 9/11 and I don’t even need to. Nomatter what happens for me going forward, 100 percent of it will bemine and all of it is exactly what it should be.Regardless, what you read from here forward was written at adifferent time in my life. Some of the material has been edited andamended to reflect the changes. Wherever I think it is important, I notethat for you. While you are reading, I hope that you take time to reflectback on your own previous trading past and ask yourself some hardquestions. Perhaps, in addition to the insights I share or the uniquepoint of view I hold, you will personally be able to use the past yearsof your trading career in a new way. Much of what I found in the markets has not changed in spite of my personal experience during thelast several years; mostly what has changed is my level of self-awarenessand self-acceptance. No matter what happens in the markets, my trading account balance is my responsibility and no one else’s. Sometimes
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that means I am positioned on the wrong side of a world event; sometimes that means I did something stupid to myself. But in all cases, theresponsibility lies with me and it can never be lip service. I must ownthat level of responsibility.Lastly, before we get started, in fairness to the reader, most of whatyou see here is as close to the original text as my new publisher wouldallow. Much of my more colorful language has been edited to a “PG”level, but most of the content is as I wrote it for the first edition. Myintention was to preserve the original purpose of the book without alot of change. I say that because, if you are one of the traders who sincerely want to get as far as you can go, some things won’t change whileothers things get better/worse. The trading environment evolves justlike you do. For example, in today’s electronic marketplace, the risk ofyour account balance being affected due to a brokerage house internalissue (as described in Chapter 4) is a lot smaller. On the other hand, theregulators are another issue (as described in Chapter 6). In my opinion,I think that they have gotten worse during the last few years. I thinkthe U.S. markets will lose market share and skilled people as the regulators overregulate, increase costs, and waste time and resources.Anyway, rather than take up space with a whole new book, let melet you get to reading The Art of the Trade. I hope you find value in myexperience and wish you the best in your trading.Jason Alan JankovskyFormerly “Trader X”Chicago, IllinoisSpring 2008
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Foreword to theFirst Edition
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t is the author’s intention to write this book only as a journal of hispersonal experience through being in the business of futures andoptions trading and how he discovered the true nature of reality ashe sees it. Therefore, he could exploit the apparent function of the markets by discovering their real function, as well as how to exploit everything else. He did not intend to write a how-to book. He has made thisnarrative as brief as possible and that holds at least two real benefits forreaders. First, because the author believes he has nothing new to add tothe business of trading per se, the reader will not have his (or her) valuable time wasted looking for something that really does not exist. Second,the author will force the reader to wonder what he is really getting at bya consistent reference to the fact that the author knows what some overriding principle or reality related to the markets is and the reader doesnot. The reader will then form only one of two conclusions: Either (1)the author is nuts and this book was a waste of time, or (2) the author ison to something. The reader will then really start the process of gettingwhat the markets actually represent for him.
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Trader X1 receives two benefits from this hypothesis as well. First, ifthe reader believes this book was a total waste of time, Trader X knowsthat particular reader will probably remain enough of a losing trader toprovide a constant flow of money that becomes available to him andthose that fall into the second group, although he knows that will continue anyway. Second, Trader X can draw new distinctions about thenature of reality from those traders who read this, and believe he ison to something, should he meet them personally without them knowing it was he who wrote this book. He believes their thinking would beinfluenced somehow by meeting a “famous trader” and, therefore, theywould never really share the true nature of what they see, but something else of little value. Because a very large group of traders whocould be potential readers live and work side-by-side with him, TraderX believes he would lose these benefits. He would become a directtarget of criticism or congratulation that would influence his tradingbecause they could “find” him and, therefore, influence his clients towhom he feels a high degree of personal responsibility. The authorbelieves this could only lead to losses. Trader X believes this would bethe case if only one copy was sold and he only met one individual.Since he cannot predict what would happen “positively” or “negatively” in either case, he decided not to take that risk, or reduce it asmuch as possible, especially if the book sold well within the industry.This is why the book is anonymous.2The author assumes the reader will already have a basic knowledgeabout the trading business. For those who know little about the markets, or are not in this industry, outlined next are some of the basics herefers to.
The ArenaThe futures and options exchanges are a central meeting place for thepurpose of trading in some necessary element that affects everyone. Thisincludes consumable commodities such as corn, crude oil, orange juice,and the like. It also includes financial instruments such as Treasury bonds,currencies, stock indexes, and so on. Exchanges do not set prices; theyprovide a place for price competition from all participants who choose
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to trade. Those who do not trade receive a benefit intangibly by keeping prices as fair to them in their daily life as possible. Membership tothe exchange is not a requirement to trade through the exchange. Thisprovides a way for anyone to exploit price competition for their personalbenefit or to earn profit from some perceived opportunity. There are twokinds of market participants who are in direct competition with eachother. It is this competition that will create prices or cause them to move.One participant is the speculator and the other is the hedger. The speculator is attempting to take advantage of price movement solely for personal profit. He (or she) is taking the risk of price action, either for oragainst him. The hedger is attempting to take advantage of price movement for the purpose of reducing his production costs or to improve hisprofit margin when he markets his final product. He is transferring hisrisk to the speculator and assumes little or no risk of price action againsthim. Should prices move in a direction that further reduces his beginningcost of business (or further improves his profit margin), he cannot takeadvantage of that from the point he transferred his risk to the speculator.The hedgers benefit from the markets is a “known” permanent cost ofbusiness. The speculators benefit from the markets is an attempt to profit.A futures contract is a standardized agreement between two parties to either make or take delivery of a specified amount of a particularsomething at a specified future point in time. This agreement can becreated or liquidated at any time prior to that date. As long as any market is “open” for trading this agreement can be created or liquidated forany length of time either side wishes to participate. This time frame canbe months or years and also as short as just a minute or two. Any individual, whether a speculator or a hedger, is obligated for the total valueof that futures contract for the time he holds it. On a specified date hemust either pay for it completely if he is a buyer in the market, or actually produce the product traded to the buyer if he has been a seller inthe market. That is called taking or making delivery. Until that point theexchange requires a financial commitment bond to secure this relationship and to protect both parties against default from this contractualagreement. This is called margin. The exchange typically requires thateach party wishing to enter into this agreement from either side deposit2 percent to 5 percent of the face value of the contract. In some cases,the hedger does not have to make this commitment. He only needs to
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prove to the exchange that he actually owns or controls the productto be traded in sufficient quantity. In either case, this can be in cashor something that is considered liquid enough to be converted intocash within a reasonable time frame. Once this has been done, youmay trade. When you choose to participate as either party to the transaction, you are opening or taking a position. Because of the relationship between entering the agreement, and not having to fully acceptfinancial obligation until a future date, a futures contract is considereda leveraged instrument for the period of time leading up to the delivery date. Typically, about 98 percent of all futures contracts are liquidated before that time. This is called closing a position. The time betweenopening a position and closing the position is called holding a position.If you open a position in a futures contract by buying the pricecurrently being traded, you are going long. If you open a position ina futures contract by selling the price currently being traded you aregoing short. When you do either, it is called an execution. To close anyfutures position, you must make another execution. If you are holdinga long, and you wish to close your position, you must execute by selling into the market at the price currently being traded at that time. Ifyou are holding a short, you must execute by buying the price currentlybeing traded at that time. You will be assigned the difference betweenthe two prices executed against the margin in your account as it relatesto the full value of the position.In other words, if you buy one futures contract of corn for $2.75per bushel and sell it for $2.77 per bushel you would have a profit of2 cents per bushel. The corn contract size at the Chicago Board of Trade(CBOT) is 5,000 bushels. Therefore, you would have a profit equal to$100 (2 cents ⫻ 5,000 ⫽ $100). If the opposite has occurred you wouldhave lost $100. The amount of cash in your margin account would havegone up (or down) by $100 if you would have bought and sold corn for again (or loss) of 2 cents a bushel, aside from any fees.If you complete a transaction as described, you will have eithera profit or a loss against your margin at that point until you decideto execute another transaction or close your relationship with theexchange and ask for payment to be made to you. If you went longby beginning this process on the buy side, and you closed your position with a sell execution higher than your buy execution, you wouldhave a profit. If the opposite occurred, you would have a loss. If you
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went short by beginning this process on the sell side, and you closedyour position with a buy execution lower than your sell execution, youwould have a profit. If the opposite occurred, you would have a loss.Because you may begin this process in either fashion, you can attemptto profit as prices are rising or falling. The hedger is not obligated toboth sides of this process unless he chooses to. He may close his position by making or taking delivery, depending on which side of themarket he is hedging from.Hedgers use both sides of the market depending on their businessneeds. For example, if you make candy bars you might want to buysugar ahead of time if sugar is at an important low price relative to yourcost of production. If you grow cocoa and sell it to candy bar makers,you might want to sell cocoa in the market ahead of time if cocoa is ata higher price than you normally could get from a candy bar maker. Ineither case, the buying or selling hedger is not obligated to liquidate histransaction. He may make or take delivery.The entire process must occur under the authority of the exchange.This is the clearing corporation, which must ensure that both partiesto the transactions have been assigned their positions and that sufficient margins for every transaction are available and on deposit withthe exchange. This is done to make absolutely certain that those whohave traded for profits receive them and that those who have traded forlosses will pay them.An option on futures is slightly different. It is the right but not theobligation to enter the futures contract until a specified date. If youchoose to exercise this right you are now in the futures contract itselfand subject to the obligations as described above. There are two parties to an options transaction as well; the grantor, or writer, and the owner,or buyer. The grantor is obligating himself to take the other side of afutures contract, which he will provide to the owner at a specified pricecalled the strike price. He is under this obligation until the specifieddate called the expiration date. The owner of the option may exercisehis option, or sell it to someone else, at any time prior to the expiration date. The grantor may also close his position at any time priorto the expiration date by buying it back from anyone who owns theoption, or another grantor, prior to the expiration date. This is calledoffsetting. The grantor does not have to own any futures contracts at anyprice when he writes an option, but will be assigned his obligation if
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the option is ever exercised against him. This is called uncovered optionwriting. If the grantor enters a futures contract at the time he writes anoption, or at any time prior to it being exercised, this is called coveredoption writing. The price paid for any option is called a premium. Thegrantor keeps the premium paid by the owner if the option is exercised, or a portion of the premium if he offsets it prior to expiration.There are two kinds of options. A call is the right to buy futures atthe strike price specified. A put is the right to sell futures at the strikeprice specified. If you write a call, you are giving someone else the rightto go long. If you write a put, you are giving someone else the right togo short. Approximately 98 percent of all options written are offset orexpire with no value that can be exploited from further price action infutures. If they do have some value, this is called an in-the-money option.An option can go “in” or “out” of the money any time prior to expiration. If the owner of an option does not liquidate or exercise an in-themoney option at the time of expiration the exchange will do it for him.Conversely, an option that has not gone in the money is called out of themoney. At the time of expiration, all out-of-the-money options, whethercalls or puts, are worthless. The grantor will keep 100 percent of thepremium, or the portion that he had before that date. The owner ofthe option receives nothing.Whether you are participating in futures, options, or both, the relationship both parties function under is a zero-sum transaction. This meansthat all the participants who hope to profit will be paid those profitsfrom the other participants who have losses. The money paid to a winning transaction is paid from the money in the losing transaction.This alsomeans that anyone who executes any position will be at risk that priceaction could move for him or against him at anytime. It is not possible toparticipate in futures, options, or both without accepting this risk. All theinfinite possible combinations of futures and options and the price actionbetween the two are an attempt by every participant to take as little ofthis risk as possible while attempting to maximize the potential for profits.In any case, the losers will always have to pay the winners. The clearing corporation will deduct the money from the losing positions and deposit theexact same money to the holders of the winning positions.Ghostwriter X3Fall 1998
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Introduction
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very trader has a story. This is my story. When I sat down to putmy story on paper, I asked myself some hard questions. Aftergiving some deep thought to those questions, I came to someconclusions. First, as far as the markets themselves are concerned, I reallyhave nothing new to say. It is my belief that everything that could bewritten (or said) about the markets has already been done. All of it.I think the people who write books about the markets basically doa tremendous disservice to the true student of trading by simply reiterating what has been said already. Or worse yet, publish a lot of worthlesspsychobabble. They make it harder to uncover the real truth.I didn’t want to write a book that would slow down anyone’s questto become the best trader he or she could become. Nor is it my intention to “teach” anything. I tried that. Most people who teach trading,with few exceptions, never walked the road I did. Not even close. Infact, there is at least one person who I think should be in jail for whathe sells the public under the guise of a “trading course.” After what I’vebeen through, I would never, as God is my witness, attempt to cheapenthe price of admission to this business and sell it to Joe Public for $195knowing full well that his equity is cannon-fodder for men like me. It’s
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a disgrace. I don’t know what’s worse, someone who palms himself offas an “expert,” or the fact that the public is so willing to believe himand others like him. I guess they deserve what they get. As you willlearn, I deserved what I got, but for different reasons.Second, trading is an intensely personal and subjective endeavor.There is nothing else like it on Earth. I thank God I was born at a timein history when this kind of trading exploded onto the world financialstage and I got to be a part of it. It truly is an art form. And like all artforms the result is clearly observable, but the hidden part of the artist isnever fully revealed. What I wish to communicate in some way is mypersonal “behind the scenes” view of my experience. I wish there weresome way to really do that. I’ve had the best and worst part of all of it;I wish someone could have been there to share it with me. But I knowthat because no one was there, that too is part of the story.For the individual who is looking for some “secret knowledge”regarding the nature of price movements, I think you will be disappointed. I used to think that way and probably read every book everwritten on price action. If there were a Ph.D. in markets and tradingI would have it. But I think we all know how much most Ph.D.s areworth. As I said, I think it has already been done. What I think aboutprice action can be said in the phrase “Buy low, sell high.” When anyone asks me today, “How do you know when it’s high or low?” Myanswer is, “Read what I have to say very carefully.” That’s it. There is noeasy way. Don’t waste your time looking for it. As you might discover,trading is really not about price action anyway. Don’t rip yourself off bytrying to reinvent the wheel.Lastly, I hope you experience everything that I have—all the pain, theglory, the money, the broken dreams, the unexpected joy, all of it. I don’tthink you will ever become a lasting success at anything, certainly nottrading, until you do. The markets are the absolute best place to find whatyou are looking for. If you truly and completely desire to become what youcould be, very few places will give you such a perfect and lasting opportunity to do so. It took me a long time to accept the lessons you couldlearn in these pages. But, I suspect most people won’t learn anything andwill continue to do it the hard way. That is the razor’s edge. It takes a lot ofeffort to swing a dull axe. Be wise and sharpen the blade.
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Like a canvas or a piece of music, the whole is based on the sum ofits parts. Each part contributes, some more than others, and they mustbe understood in the context of the whole. This book is not in anychronological order; it all relates to the whole picture. While reading it,feel free to skip around and take the material in any order you like.When I was younger I would sometimes skip to the last chapterof a story to see how it ends and then go back to discover how it gotthat way. That is certainly one way to look at life.You might learn morethat way. The raw material of your trading art is the unique part of youfound within the context of the whole. No one can fully see thingsthe same way you do.You will never see things exactly as I do. No onecan take from you or me what we have paid the price to know. It’s myopinion that the reason so many people never become a lasting successat trading is because they have never paid the price to really know. Theonly reason I have achieved what I have from the markets is because Idiscovered the right questions to ask and eventually had the courage toanswer them. What are those questions for you?Let me say this before getting started. Some who are close to measked me why I wrote this book under a pseudonym. Most who knowme won’t even know I wrote this. I think the answer to that will also shedsome light on my experience