When you see different types of finance books from different periods before you, which ones are you more likely to pick up and read?
The older ones, written decades or even centuries ago, a musky old-paper smell emanating from their pages that have turned brownish, unassuming titles and aged cover designs, some re-published after being out of print?
Or the younger ones, maybe 2 to 5 years old, loud and bold titles promising riches, booming colors, including free content, usually boasting large typefaces that bloat a book to seem more stuffed with content than it actually is?
The old dogs
‘Beware of old men in a business where men die young’. This saying as true for the military, as it is for stock market operators … and equally for investment books.
Why do I tend towards the old dogs? After many many decades and sometimes centuries, they are still sold and read.
Their lessons have been tested by an array of market cycles, as colorful and different to each other as can be. Their lessons hold true, no matter who you are or what market your trade in. They have stood the test of time.
Time acts like a filter, like a type of natural selection. Only that which works survives. Tactics, algorithms and strategies that are overfit and only work in narrow time periods until the masses discover them are naturally discarded, left behind.
The wisdom of the old surviving books has stood the test of time, while millions of their compatriots that were written over the decades and in some cases centuries have vanished into oblivion.
I’ve read hundreds of investment books over the years. Yet, the few books that I consider true gems are limited to the single digits and all at least 40 years old, some around a century. There are only perhaps 2 books that I find worthwhile reading which were published after the turn of the millenium.
Meet Gerald Loeb
Gerald Loeb, a less known but phenomenal speculator and brokerage agent active from the 1920s to ’60s, has taught me a lot through his two books The Battle For Investment Survival (1935) and The Battle for Stock Market Profits (1971).
It took me years to truly and fully grasp their scope and far-reaching ramifications in honing the axe of the serious and professional speculator.
The military book titles imply that one has to truly grasp a large set of concepts just to survive in the markets, let alone to profit consistently year in, year out. Of course, these are too many to list here. What follows are a just a small handful of ideas that I associate specifically with Loeb’s style of market operation.
Portfolio management is like gardening
A principle that is difficult to grasp for most novice and even self-perceived advanced speculators is that of bending with the wind. Capital should always be funneled towards the winners, and away from the lagging or losing holdings.
There is a common misconception from buy-and-hold ‘investing‘ that you should “rebalance” your portfolio every now and then. They argue, you should take money out of your winners and put it into your losers.
Loeb argues oppositely, and explains that your funds need to be kept “liquid”, i.e. capital that does not perform well has to be re-allocated towards productivity. If you happen to have a portfolio of 8 stocks, and only 2 of them perform well, you should sell the other six and put the money into other better-performing stocks. Once you can tell which of these six new positions perform better, you can massage more capital into the winners and out of the lagging stocks.
This is an extension of sound money and risk management and requires strict loss-capping when the perceived winning stocks start under-performing.
This is a high-altitude and simplified overview, but overall this attitude keeps your money at its most productive state. Doing so is counterintuitive, because we as humans tend to want to give attention to our weak parts, our areas that require improvement. But stocks cannot be improved by putting more money into them, just as we cannot make our favorite football team win the world cup by betting more money on them. They are detached from us, our wants, our needs, our beliefs and attitudes.
Thus, just as you should not give cash to a severe drug addict, you should not put more capital into an under-performing, or worse, loss-generating stock. In both cases, more money will not improve the underlying nature of the problem.
Bottom line – successful activity in the markets requires watering the flowers and throwing out the weeds.
Ditch the proverbs
It is commonly known that most people’s opinions and ideas about the stock market are flat-out wrong. Trying to avoid the tyro mistakes and to distance himself from the gambling masses, the average stock market amateur tends to fall into the habit of reciting Wall Street mantras and proverbs.
You’ve undoubtedly heard them before: “Buy low, sell high“, “Buy what you know“, “Wait for the pullback“, “Sell in May and go away“, and many many others.
Unbeknownst to him, however, many of the same proverbs actually can be problematic for the long-term financial health of anyone in the stock market. A few of them may have some truth to them, but most are taken out of a very specific context, only truly work in hindsight, or are trivial. Others are outright false.
“Buy low, sell high” and “Wait for the pullback” only serves to condition people to buy into down-trending markets. This can work for quite some time during mild corrections in a strong bull market supported by the Fed, but ever so often a true multi-year bear market comes around – and then the pullback buyers truly suffer, losing more and more when buying into continuously dropping prices.
“Buy what you know” – hoarding shares of established blue-chips will not lead to out-performance. Once a company has established itself in a niche for a long time, it’s stock has been played well over by institutional holders. It has become a “darling” stock, a “safe bet” for large mutual funds, with a huge share floating supply and behemoth management structures impeding swift disruption in the company’s niche. Even if a new product/service comes out, it barely affects the bottom line.
Ignoring fresh and unknown issues on the other hand is the key to mediocrity. But stubbornly insisting that a new hip company stock should what you want it to do because you like the company is a recipe for disaster.
Loeb specifically writes about the “Come Back” fallacy, the old Wall Street adage that if you only hold a stock long enough, it will come back one day. The cemeteries in the world of finance are filled with the corpses of those that insisted that their stock will come back eventually.
For every era, there is a set of must-own stocks that people are convinced will survive into eternity. This has happened time and time again.
As Loeb points out, in the roaring twenties many electricity companies, steels and railways were considered safe blue-chips. Many collapsed in 2929 and, if at all, took many decades to recover.
To not dive too far into history, let’s look at the 1990s. Then, some of the blue-chips of the day were WorldCom, Enron, Ford, Xerox, AT&T, Cisco and Intel. The first two imploded and were de-listed, the latter five have still not recovered until today …. 23 years later.
For the 08/09 crisis and bear market it was Citigroup, American International Group (AIG, see chart above) or Lehman Brothers. In the years before, brokers sold these as “safe bets” that were too big to fail.
Of course, a stock may eventually come back. The point is not that they cannot come back. It is that the deeper they fall, the longer it takes, and that you cannot underestimate your emotions when your accounts draws down 70-90% for 5-20 years. Panic or resignation selling is the reasons so many people have lost their shirt in the dot.com bubble and in 08/09, plus you don’t know if it will come back at all in your life time. Look again at AIG’s chart.
Do you have 20+ years to wait, just to break even? Many people don’t even have 20 years to wait for a profit.
The list of proverbs goes on, but you get the gist. They themselves are what the notion refers to as well that most people are wrong in the stock market.
Write things down. Before you act.
Many readers will not comprehend the weight of this rule and turn away in boredom. In fact, it might take years of experience and being whacked around by the market to really understand just how important it is for an active speculator.
You might have read this one somewhere else, but people tend to emphasize it for the wrong reason – it is less for documentation purposes, but rather to apply emotional discipline and to learn from your mistakes.
Trading icon Richard Wyckoff wrote about this idea as well: “I would write my […] purchases in my book with reasons alongside why they should ultimately be worth more money.”
Gerald Loeb referred to this as writing down the ‘Ruling Reason’ for a purchase, or a sale. He would not what he wanted to buy/sell, how much, why, and also why he should not do something at a given time.
The ‘how much’ and ‘why’ are here the important parts. Once we see an enticing setup on the screen, usually after waiting for quite some time, with fingers itching to place an order, our rules and self-imposed safeguards can get overlooked in the face of fear or greed. “Only this one time” we tell ourselves, “it would break some rules but it looks too good”, or “it’s too early but I don’t want to miss the move”.
Such thinking is a slippery slope. Writing down the reasons why you want to place an order before you act, and what size of a commitment to place, makes you regurgitate your rules and your plan of market operation, laying bare shortcomings of the opportunity.
Putting down a single ruling reason can make the difference of multiple unnecessary losses in a row, or a serene sitting back and letting marginal opportunities pass. In The Battle For Stock Market Profits, Loeb remarks “All too often many relatively unimportant statistics are allowed to obscure this single important point”. The ruling reason may be a factor concerning the individual stock, but in my experience it is at least as often linking to the state of the general market.
Especially those that traded hitherto without an explicit set of trading rules will gloss over the importance of this.
Once you have gone through the long pain of carefully developing a detailed trading system, a new unknown devil arises – your own emotions trying to override this system. A little voice in your head whispers to you that breaking the rules this time is OK. Don’t let it – write down what your strategy actually dictates for the situation you find yourself in. The whys, and the why nots.
As Loeb suggests, the problem is most magnified when selling for a profit or for a loss. Without a plan laid out before, we start justifying and rationalizing where we should take a loss and, if the positions develops well, where to take a profit.
“Self-interrogation will help you immeasurably. […] Unless everything suits you, you don’t play. […] Write it down – and you will be less likely to find yourself making irrelevant excuses for holding a security long after it should have been sold”. This goes for the upside, and the downside.
Second, writing things down before you place an order and enter a position gives you an unbiased idea of what you were thinking before you did it, and gives you an edge later when analyzing your mistakes and fine-tuning your system. Once a position is entered, we tend to justify our actions based on what we see post-hoc. Writing things down first gives you the objective insight into your own thought process that led to the decision.
As I wrote above, Loeb’s books are densely packed with jewels like these. His first volume can be readily purchased. His second book is a hard and rather expensive pick to find as a physical copy, but fortunately the Open Library lends it out digitally for a fortnight with a free account.
Give them a read, apply their messages for a while in the markets, then re-read them. Repeat this cycle a few times. You will understand and relate to his many lessons more each time. Pure value.
