Daytrading.no - the website of Oddmund Grøtte

17th of August, 2010
Niederhoffer, again

I know Niederhoffer has blown up a couple of times, but still he has some sharp comments about the markets. Here is an interview. I liked this description: 

"I think a much better view is that the stock market never rises unless there's a wall of fear it has to climb. When the public is most frightened, only the strong are left, and that's when the market is in the best possible hands. I call it taking out the canes. Whenever disaster strikes, the very sagacious wealthy people take their canes, and they hobble down from their stately mansions on Fifth Avenue, and they buy stocks to the extent of their bank balances, and then a week or two later, the market rises, they deposit the overplus in their accounts, invest it in blue-chip real estate, and retire back to their stately mansions. That's probably the best way of making money, to be a specialist in panics. Whenever there's panic hanging in the air, that's a great time to invest."

8th of July, 2010
Updates

Due to time constraints it seems like my updates will be much less often going forward. However, hopefully the quality will be much higher!

12th of March, 2010
Thomas Edison and trading

Today I had a brief look in one of the first trading books I bought back in 1997: Joe Krutsingers The Trading Systems Toolkit, a book which I consider quite bad and useless. However, he had a well worth description of what he considers the best assets for mechanical traders:

"Usually a good system developer is fairly analytical, often a loner, likes to believe in things that he or she discovers on his or her own rather than taking the word of someone else about it, is fairly successful at what he or she has done in the past, and is open to new ideas and new things. You also have to have a certain amount of tenacity. You have to have the ability to keep looking for an answer that does not feel like it is forthcoming.....Thomas Edison looked at 40 000 materials until he found tungsten."

January is just finished and I booked a barely profitable month. However, this was my 101st consecutive profitable month since september 2001 (which I think is quite good). My worst month so far is october 2002 with 500 USD in profits, and my best month is october 2008. Right now most of my strategies perform quite badly. I trade mostly around the opening, and less imbalances and liqudity makes for less opportunities and much more slippage. Not a nice combination. However, that makes some interesting thoughts about new strategies (which is long overdue!).

I've just finished reading Bailout Nation by Barry Ritholtz. The book provides an informative look at how years of easy money led us down to ultimately bailing out both finance and manufacturing companies. It's written so everyone can understand the facts on what happened. The author has a bias, but it's backed reasonably well by facts.    

But after reading it it's worth remembering this:

Norwegians don't realise their lucky fortunes. Greece has 450 billions in forign debt, about the same Norway has in in the sovereign fund. Norway ownes 1.5% of the stock market in Europe. Greece is in a crisis, and the next one to fall will probably be Italy: Huge debt and a very ageing population. This increase in the public debt neet to be stopped but it's beyond me how they can do this with (probably) higher interest rates and ageing population. At some point in the future this will end in tears. The bond buyers will require higher interest to offset the increased risk for default.

Look at Japan: for almost 20 years they have pushed more money into the economy to "stimulate" it after the real estate crash in 1989. The result is 180% debt to GDP. Instead of letting the weak companies go bankrupt they keep subsidising them via increased government borrowing and too low interest rates. This is the road all countries have taken after the credit crisis, so the future does not look that bright (economically). According to IMF the public debt will increase to 114% in 2014 for the OECD. We're spending and borrowing and expecting the future to solve it. Quite irresponsible! Will this create the mother of all bubbles?

It's been a long time since any updates. From now on I'll write just now and then. It takes too much time to write and I need to focus on my trading. Lately trading been quite tough and not much money to be made.

Yesterday the Commerce Department released figures that show wages and salaries fell 4.7% in the 12 months through June (in the US). At the same time the CPI is just slightly negative. This means the real income and purchasing power is plummeting....Quite scary!

After 12 years of speculating I have learned one thing: nothing lasts forever and the ever changing market cycles will force you out of business if you're not flexible and innovative. I have a constant fear for this and try to trade 5-6 different strategies all the time to make sure I'm not left with nothing. However, since late April all of my strategies have dried up at the same time! You can't fool the market, and this means I'm going back to the drawing board.....

On friday the national Bureau of Statistics (of Norway) published the CPI numbers for June: 3.3% rise over the last 12 months, an increase from 2.8% in May. This happens in a "crisis" where every expert has been afraid of deflation (they've been so wrong). This has made the central bank lowering interest rates from 5.5% to 1.25%. This has led to surging real estate prices, an increase of 12% over the last 9 months. But where else can you put your money? Real estate is very favourable compared to other assets due to lower wealth tax.

Look at these numbers:

• You get 2.5% at best in a savings account
• On the deposit you pay 1.1% wealth tax
• Of the 2.5% interest you pay 28% capital gains tax
• Inflation now running at 3.3%

The effective tax rate is thus 72% on the interest income! On top of that inflation is just a tax due to the increase in money supply. So this is a surefire way to lose money. The purchasing power diminishes by 2.6% a year!!

There is a lot of talk about that some banks are "too big too fail". I mean, some banks are saved and some banks aren't. Lehman Brothers went belly up (obviously not big enough to get saved), but Merrill Lynch was literally forced into Banc of America. Merrill was too big too fail. No wonder that the banks get too big when the big ones get subsidized and the small ones are left to fail? Citicorp was saved by the taxpayer for the third time last year. What kind of corporate culture is that? They simply take risks to enrich themselves because they know the taxpayers will save them. There is no downside, just upside for the employees.

It's a provocation to read that Goldman Sachs will report the biggest profts in its 140 years long history. And of course, most of this is paid out as bonuses to the employees. This is the same bank that 6 months ago got 10 billion USD in aid from the taxpayers (TARP - which they returned this week).

To me it seems like the investment banks are kept hostage by the employees. Shareholders and the board are left with no power. And for this they get rewarded by the politicians!

I started this year by predicting the burst of the bubble in long term treasuries. They have now fallen substantially, the yield has gone from 2.1% to almost 4% for 10 years treasuries. This is all due to manipulation by the FED (when they announced they would buy back treasuries). Now we're witnessing another bubble due to FED printing money: the price of crude oil. Crude prices are rising because of an influx of money from Wall Street. Investors have used oil and other commodities as a hedge against a weak dollar. The dollar has fallen in large part because of the billions the government has spent on corporate bailouts (my opinion), and that has attracted enormous sums of money to the oil markets. By trying to fix a demolished economy, the FED is creating yet another bubble. There is no free lunch in economics!

The only sensible person in this havoc is Germanys Angela Merkel. She manages to think long term: It's better to have a longer recession now to clean out the weak to increase productivity for the future.

Most stock indices have performed quite badly over the last 10 years. Think about Japan where the Nikkei was higher 25 years ago! We always hear that stocks need to be held for "the long run". Last week I was at a seminar held by Fokus Bank, an affiliate of Danske Bank. They showed some basic statistics about volatility and returns: Assume that the stock market on average gives 4% more annual return than money market funds. Add to this 20% annual volatility in stocks. What is the outcome? There is 37% chance you'll underperform money market funds over the next 5 years. Over 10 years the chances are 13% underperfomance. My guess is that underperfomance is a lot more likely than most expect!

Civita, a Norwegian quasi-liberal think tank, has some interesting papers. On this page you can find most of them. I strongly recommend Johan Nordbergs "Staten og finanskrisen". Enjoyable!

The stimulus money is just a joke: it will hardly create any jobs. Most of the money is spent on unemployment insurance and other state and local programs. There is no productivity gain. In other words, money supply is increasing but with no productivity gains attached. A recipy for inflation. The rise in equities over the last two months is the first stage of this.

If we do see inflation in the future, which I think we will, equity markets are heading for problems. Corporate profits/margins will diminish as they will struggle to pass on increased costs to consumers. Add to this rising interest rates.

Is the run in equities a result of increased money supply? The US government are buying back treasury bonds for tens of billions USD. Those money has to go somewhere. There is nothing to get by putting the money in the bank. I guess all those managers underweighted in equities are buying for the fear of missing a coming bull market.

Spain today announced an unemployment rate of 17%. Think about that. In Norway we have less than 3% and the prime minister runs around screaming about the "crisis" in Norway. This has led to record low interest levels here as well. The result is of course asset inflation. Real estate is up about 10% since the "bottom" in December. I bought an apartment as an investment i December and that is up more than 15% by April. Quite scary to me.

A random note: Today Innovasjon Norge announced it has lent 250 million NOK to Norske Skog, one of the biggest paper producers in the world. There is no pricing disclosed, but I guess the loan has better terms than Norske Skog would get elsewhere. Now they can use that money to buy back "bad loans". The authorities intervenes everywhere. I thought Innovasjon Norge was for small businesses, not for multinationals?

BTW, Innovasjon Norge has 750 employees (!).

The unnamed official told the Financial Times the government had three basic tests. It needed first to "make sure the system is stable." Second, to not create "incentives for more deleveraging which would deepen the recession." Third, to make sure the system had enough capital to "provide credit to support the recovery."

The government wants to continue reckless spending and borrowing! This reminds me more and more about the USSR and central planning.

There is always unintended consequences when the government interrupts the "free market" (it's not very free in any form). Here are some thoughts:

1. They are bailing out profitable firms like Goldman Sachs, JP Morgan anf Wells Fargo. Wells Fargo just reported their best quarter ever. In the US there has been an huge amount of wealth transfer from the taxpayer to the wealthy in these bailouts. Seems quite immoral to me.   

2.Companies are "too big to fail". The net result is higher taxes, growing national deficit, higher costs due to reduced competition, capital flight, lower investments, rising inflation and a stagnating GDP.

3. The government doesn't want the borrowers to repay their bailout money. Goldman wants to repay, but Obama refuses (!).

4. The banks, which are in deep trouble, pays less interest margin than healthy firms like Berkshire Hathaway, for example. The banks are subsidized by the government. The well run companies gets penalized! Socialism in its pure form.

5. Everybody wins. Noone is left to go bankrupt. So why act responsibly?

6. Most of the stimulus is just an injection/printing of money. If there is no productivity gains, there will be inflation: more money chasing less goods.  

9th of April, 2009
The bailout charade

The US government is trying to do everything they can by artificial means to keep the financial markets from falling into the abyss: 1. They are pumping trillions of USD to keep assets artificially higher than they would in a free market. 2. They are changing the accounting rules to keep massive losses from being booked into the P/L. 3. Now they want to limit short sales. Even when they banned short selling outright in financial institutions in 2008, they tanked. Must be a fools paradise.

On top of that: last week some banks said they want to participate and buy toxic assets. Think about that:  Insolvent banks who have already received billions of dollars in taxpayer money due to "toxic assets" on their books, are now going to participate, as BUYERS, in a government program designed to provide yet more taxpayer money intended to help banks get toxic assets off their books! The whole bailout program in the US is a charade.

On the 31st of March there was a seminar in Oslo about capitalism, and one of the speakers were Trym Riksen. He had some interesting facts and one was about Merrill Lynch, the investment bank now taken over by Bank of America. Merrill had to write down an incredible amount of losses in 2008: they wrote down the same amount as the accumulated profits over the last 35 years!

This is a perfect example of the black swan theory by Nassim Taleb. Merrill has over the last 35 years taken an enormous risk to get an "acceptable" profit. But when disaster strikes, the losses wipe out the whole company. How could this happen? First of all due to too much leverage. Leverage makes them charge less difference between their borrowing costs and what they charge their customers. This is fractional reserve banking. Less leverage would lead to higher interest rate for the borrower. The authorities doesn't want that. Riksen also showed a graph showing the huge increase in credit leading up to the crisis. The same thing happened in the 20's before the crash in 1929. From the early 1960's there has been a gradual increase in total credit. How come the auhorities don't question the financial and monetary system as a whole? No regulation will ever rectify this. When it costs close to zero to borrow, this is inevitable.

Secondly, the employees at Merrill have an incentive to take on risk. Why? They are paid a salary and a bonus. The bonus is based on profits and of course they don't have to pay for any losses. So they just need to take on risk to get a high profit on equity by using leverage. And the bank will be bailed out anyway by the authorities if it goes belly up. It's all moral hazard. 

Norway has no unemployment (less than 3%), ridiculus low interest rates (2%), strong retail sales, increasing GDP and high purchasing power. And above all, a huge positive trade balance and billions of USD in the stock market. Norways sovereign fund owns 1.5% of the market capitalisation in Europe!

Still we have a prime minister running around talking about the current"crisis". If we have a crisis in Norway, what do they have in Ukraine where GDP has fallen 20% in the first quarter? It kind of makes me sad thinking about all this complaining when we should be happy.

I have received a couple of e-mails telling me that I should be worried about deflation, not inflation. And yes, If it weren't for the stimulus plans the recession would be more severe. However, I do believe it would be rectified much faster as well. Here are some points I would like to emphasize:

1. Yes, I understand the deflationary pressures in the economy. The velocity of money is diminishing, undoubtedly. But I think the stimuluis plans have gotten too big. This might have an impact for many decades ahead. Inflation is horrible for productivity and investments. History has told us that great empires have vanished because of that, like the spanish for example. 

2. The powers that be wants inflation more than deflation. Actually, I believe they want some years of 5-10% inflation to decrease the debt ratio and level the playing field. This of course happens at the expense of the saver, but they don't care. Savers will manage somehow anyway, they believe.

3. All the stimulus plans all over the world is an experiment never tried. We have never been in this situation before.

4. Everyone argues that it is easy to reverse the situation in case we see sign of inflation. Yes it is, but I don't believe that will happen. It's much easier to lower rates than to increase them. See also number 2.  Every time the rules governing a currency lead to a problem that causes too much pain for a government to bear – the government just changes the rules.The bigger the problem – the bigger the rules change (and the bigger the wealth redistribution). The US had deflation from 1929 to february 1933. But at that time the dollar were backed by gold. Inflation picked up instantly when the rules were changed and the dollar became a fiat currency.

5. There is a difference between price deflation/inflation and asset deflation/inflation. Right now we have asset deflation but price inflation. That is what I fear about the future. The cost of living increases while assets are sinking in value. Consumer debt and rising unemployment might sustain inflation, but inflation has a way of showing up in things people actually need: food, energy etc. This happened in the UK this week: the CPI "unexpectedly" rose 3.2% due to rising food costs. This happens at the same time as the interest rate is at 1%. What a catastrophe for the savers, getting evaporated by inflation.

At the same time, leading up to this crisis, we had asset inflation and very low inflation in the CPI. This is the result of the manipulation of the money supply by the government. Excess supply has to go somewhere and its ugly head shows up where you least expect it.

Yesterday the FED decided they will buy back long term treasuries. To me this means:

"We give up, the economy is screwed, let's print some dollars and start all over again".

I certainly didn't expect this yet and this is a field day for all USD shorts. Gold, treasuries and oil of course skyrocketed on this. TLT, the ETF for the ten year, rose almost 7% in minutes on this. To me this will just create an even bigger mess in the coming years. Productivity and investments will will be much lower than it could be. Pensions and wages will lag behind and the purchasing power will be diminished. And more importanly, the savers are screwed big time.

To me this signals a capitulation by the FED. This might be their last bullet.They have taken a road that can't end well. They are trying to put a bid under the housing market. This can't work. The valuations were bid up on absurd lending standards and thus created artificial demand.

The real problem in the US is not solved: not enough saving and too high consumption/imports. The FED will now simply buy treasuries from the chinese at a higher price. In the short term the chinese might be pleased with this, but in the long run this may lead to inflation and the mother of all bubbles will burst.  

The problem arises when the lending normalizes. Remember this is fractional banking where we can multiply equity by 10. If the FED does not increase the rates then, we're in deep shit.

Yesterday SSB published some "surprising" CPI numbers. In brief, the numbers were a lot stronger than consensus. Core CPI increased .8% last month and 2.5% over the last 12 months. Including energy prices it gets even worse: 3%. Is this the beginning of the trend I have warned about? Hopefully I'm wrong, but I have no faith in the central banks and politicians "buying" more votes. Most people want some inflation.

Analysts were surprised by the numbers. How come? There is no crisis in Norway, there is still positive growth in GDP. That combined with increased money supply will undoubtedly lead to increased inflation. Historically the correllation between money supply and inflation is very high (and it makes perfect sense). Retail sales are still strong. The unemployment is still low, and the credit crisis is "good" for the 97% who still have a job. For me, a saver, this is real scary.

Safe haven is a good site. Some days  ago I came across this comment. If Paulson really said this, then the crisis is really deep:

Numeros democrats in the US have been lobbying for a transaction tax of .25% on all security transactions. This is to stop "abusive speculation", ie daytrading for example. I would expect most of the population to support this as the rage against "Wall Street" is rising (like a witch hunt). Even some politicians in the EU want to do this EU-wide. This is scary stuff.

Most people speculate for the long run so the cost would supposedly be neglible for them. Really? All will be losers if such a tax is implemented. Here are some numbers:

Assume you are a long term investor with a turnover once a year. That means .5% less return every year. .25% less if turnover is once every 2 years. Coumponded over many years this is significant. In reality the numbers would be much worse. The spread would widen and the cost be much higher. Thinner securities would have a spread widen by at least the same amount as the tax. So our pensions will be much lower. And the allocation of capital in the society as a whole would be more costly and thus more inefficient. This is a perfect example of how taxation makes us much poorer than we should. The problem is that the latter issue is a hidden cost. You can't see it in any accounting sheet.

Property rights, one of the foundations of capitalism, good ethics and economic growth, is ranked every year in this article. Norway is ranked among the top and gets a much higher score than the "capitalistic" USA. Also noteworthy is that the top is dominated by the rich countries. As usual the poor ones score low on property rights, one of the reasons they will remain poor in the future, a sadly fact neglected by the socialistic dreamers.

Expectations and psychology play a huge impact in the stock market. For those with less experience this often is counterintuitive.

I have now 12 years with investment experience and some of the best plays happen when there is a strong focus on certain macronumbers. For example in early february when the unemplyment numbers came (the first friday in every month). Both on thursday and friday morning CNBC were interviewing analysts and managers about the numbers. They all agreed: the numbers would be horrible, probably the worst numbers for decades. Accordingly a huge negative bias was developing. And they were right - the numbers were a lot more negative than the "consensus". But what happened? The stock-futures went straight up. Most people were already positioned for a fall. When that didn't happen, the only way was up. Only experience can teach you how to play this game.

The lesson is: whenever you hear talk of crisis you can be sure it is already discounted. Prepare for the opposite reaction.

I have received some e-mails indicating the financial system is not well understood. Let me give an example on how the banking system works:

1. The bank has a reserve/equity. Let's say 1 million. Depositors may get 3% for this.

2. Leverage (ie. print money out of thin air) x 10. Suddenly the 1 million has led to 10 million being lent out from the bank to consumers and businesses. Borrowers may have to pay 6% for this.

3. The interest differential between deposits and loans (6-3 = 3%) is meant to cover failed loans and/or increase reserves/equity.

4. Pay dividends and costs associated with running the bank.

5. The reserves/equity may increase by profits: the process repeats itself and the bank can lend out even more.

The system is that simple. As long as the costs and defaults are exceeded by the profit made from the interest received the banks reserves grow and enable higher levels of leverage. You can get very rich doing this, given low defaults. This is why Bank of America for example had a balance sheet of 1800 billions but only 83 billion in equity. When losses occur and losses eat into equity lending comes to a complete stop.

(A personal note: this is why the investment banks can pay huge bonuses: take huge leverage, earn a tiny interest differential, and make a high return on equity. But considering the leverage this is madness to me. The return unleveraged is very low. But the managers are not risking anything, it's not their money, and they can take huge risks to get a nice bonus. If everything fails, so what, it's not their money...)

However, history has showed this breaks down once in a while. When costs are higher than interest received the reserves shrink. This stops the increasing levels of lending and in severe causes can cause a full stop. This is what we call a credit crisis.

If an economy is reliant on the ability to borrow to achieve purchasing power or increase productivity then a credit crisis has an enormous impact, stopping growth and commercial activity.

Now the system has imploded under it's own greed. The problem is we have become too dependant on credit, ie living on money not backed by any value.

The central bank of Norway, Norges Bank, yesterday lowered the discount rate to 2.5%. In my opinion this is way too low. Private consumption is still strong and real estate prices rose 4,8% in January. Does this indicate a crisis? Unemplyment is still low and will be low in the foreseeable future. As late as 2004 Norway had more than 100K unemployed. Now it is just over 60k.

Some still don't get it: the danger by taking on more debt is bigger than slower economic growth. People need to lower their debt ratio. Now the incentive for taking on more debt is increasing. The best rates is now at 4,5%. Considering that interest is tax-deductible and adjusting for inflation, this means that the real rates is close to zero. To me this is alarming: money is not worth much. We need to let those companies dependant on cheap money go belly up and let the strong and fit survive. The idea that you can fix a period of excess borrowing and excess consumption by more borrowing and more consumption to me is just hilarious.     

It's like drugs: Norge Bank is giving debt-junkies more drugs (which obviously is not viable in the long run).

Pepole borrow too much. Not only people, but organisations also. The gearing is still horrendous in many banks. Let me finish with this quote from Wall Street Journal today (real scary, but could only happen because Merrill had 25 times bigger balance sheet than equity):

WSJ reports Kenneth Lewis is getting a hard lesson in the new balance of power between Washington and Wall Street. The Bank of America chairman and chief executive had agreed to buy brokerage giant Merrill Lynch in September, possibly saving it from collapse. But by early December, Merrill's losses were spiraling out of control. Internal calculations showed Merrill had a horrifying pretax loss of $13.3 billion for the previous two months, and December was looking even worse. Mr. Lewis had had enough. On Wednesday, Dec. 17, he flew to Washington, ready to declare that he was through with Merrill, people close to the executive say. "I need you to know how bad the picture looks," Mr. Lewis told then-Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke, according to accounts of the conversation by people inside the government. Mr. Lewis said Bank of America had a legal basis to abandon the deal. Messrs. Paulson and Bernanke forcefully urged Mr. Lewis not to walk away, praising the bank's earlier cooperation -- but warning that abandoning the deal would be a death sentence for Merrill... Two days later, in a follow-up conference call, federal officials struck a harder tone. Mr. Bernanke said Bank of America had no justification for ditching Merrill, according to people who heard the remarks. A Federal Reserve official warned that if Mr. Lewis did so and needed more government money down the road, Bank of America could expect regulators to think hard about their confidence in management. Mr. Lewis was told that the government would consider ousting executives and directors, people close to the bank say.

The development of the US dollar is a perfect example of the ever changing cycles in the markets. One year ago the dollar weakened whenever there was a"weak" macroeconomic number. Today it's the opposite. The worse the number and the more the stock market falls, the stronger the dollar (due to the USD as an anticipated "safe haven"). These changing cycles is the reason why it's so difficult to find correlations in the markets. It's all in a flux and constantly changing. But quite rewarding and stimulating when doing something right.

The Norwegian Football Association has just signed our former coach Egil "Drillo" Olsen as a temporary coach for our national team. I was a great beliver in him and I'm quite excited about this, even though it's just for three games.

Why? I believe his football philosophy is right. He's one of the few who actually uses some statistics in modern football. Just like in the stock market you have to focus on your strength and weaknesses and adjust the strategies to that.

There is no point for Norway to play a possession oriented style of football. We're simply not good enough technically. We have to compete where we have a competitive advantage. It might not be the most spectacular style, but quick counterattack has always been close to my heart.

I start the brand new year with yet another doomsday scenario for long term bonds. Press here for the article.

Since 1st of September norwegian kroner have depreciated from 8 NOK to 9.8 NOK per euro (and from 5 NOK to 7 NOK per US dollar). This is quite a depreciation for such a short time. Obviously this has a huge impact on the norwegian economy: good for exports and bad for imports (good for me as well with much of my income in USD). Lately I've seen some articles about scenarios of 12 NOK/EUR. We saw the same in the oil price last winter. At 120 dollar/barrel analysts kept talking abot 300 dollars per barrel. The talk about 12 NOK/EUR is an indication to me that the run might be over. Whenever I hear such talk (prepare for the worst etc.) it usually signals a trend reversal. In october we saw the same with the interest rates: prepare for 11% etc (in some months time it is probably only 4%). There is simply too much fear when we hear such doomsday scenarios (a peak in fear). I would have liked to quantify this but I don't have any numbers to crunch. 

For the long term I have a hard time believing the NOK will weaken against the EUR. The fundamentals in Norway is a lot better than the eurozone, not to mention the US. 

I’ve got no idea what’s so attractive with daytrading, but daytrading draws a lot more attention than other forms of investments. I can see that straight from this sites’ traffic: articles which has daytrading in the headline has many times more hits than others (perhaps no coincidence since this domain s called “daytrading”). Once in a while I get e-mails from readers wanting some advice on how to start daytrading.

Some writes to start daytrading to “stress less” and spend more time at home. My reply to that: dream on. You’ll never get a “job” involving trading that is relaxing. It’s rather the opposite. You risk being out of business on less than one day notice, either from a devastating loss or through new regulation. In my opinion you need to make a lot more than a regular job to justify the increased risk. Obviously daytrading is the best thing in the world when everyting runs smoothly, but on the other hand it’s just as well psychological ruin when losing money. Can you sustain to lose money over a long period of time? It’s easy to imagine making x amount of money, but if the income is erratic you might bump into psychological problems along the way.

I have no numbers on the success rate among daytraders but I believe it’s very low. I’ve seen it with my own eyes over the last 8 years. Heck, I might not even be in the business myself in 8 years time. There are so many things that can go wrong. There is no wrong in trying, but daytrading is very demanding. What works today, will not work tomorrow. You always have to work for new strategies. This is a job which require a lot of thinking. It’s a constant battle to tweak out new strategies.

In "crisis" like this, when politicians behave like it's the end of the world and "we have to do something", some really amusing and creative arguments arise. All is about "stimulating" the economy, ie to print more money to increase the demand for goods and services. In VG we could read a couple of days ago that unemployed should get higher benefits to "get the economy going". I have a much better suggestion. Actually, I'm quite surprised noone has thought of this yet. How about this: what if the government created a new bank with offices in every major place in Norway. When we're broke we could go there and receive (for example 10 000 NOK) as a bonus for spending ourselves broke. After all, when spending like crazy we increase the velocity of money! That would really kickstart the economy. That would make Zimbabwe and Mr. Bernanke really envious. 

This is not a joke: IMF begs countries to increase government spending to avoid a contraction in the economy. 

When you hear politicians and economists arguing for "stimulating" the economy, think about this: Modern economists, the main proponents of John Maynard Keynes, think they can print/borrow money to stimulate the economy. That means we have to borrow from the future and pay present value. Collateral is simply anticipated increased production in the future. In my opinion this is unsustainable. Money is simply circulating based on an assumption problems will be solved somewhere in the future (and with no plan, of course). To me this sounds like a ponzi scheme. My moral says: produce first, consume afterwards. Go to work first, after that go shopping. Save, later consume. Isn't this rational logic? In the Keynes' world it is opposite. Borrow/consume first, later work/produce.

Money is simply an expression/value of production. When this goes out of whack, ie. money increases more that the output, confidence in money diminishes rapidly: inflation arrives. Money supply increases more than production and ultimately this will lead to price increases. This is the way Zimbabwe went, and now Zimbabwes central bank is making a point of Bernanke going the same route! (Personally I think this article is very hilarious.) When money circulating is in disarray with production we get these boom - bust cycles. The central banking system is simply too much leveraged.

Remember inflation is calculated by just a basket of goods. For example, the US has had (officially this is) a very modest inflation over the last 10 years of around 2-4%. However, real estate and energy is not included in this. I read somewhere that if real estate was included the CPI should have been 10% annually over the last 10 years. Over the last 7 years the money supply has doubled. 10% inflation doubles every 7 years so this means there has been no growth adjusted for real inflation. No wonder the middle class in the US have decreased their purchasing power.  

My guess is that US treasuries will be the next bubble to burst. Who in their right mind will lend the US goverment money for 10 years to get 2.45% interest? I don’t, seems like lunacy to me. The buyers are guessing deflation, I’m guessing inflation further down the road, which will be a disaster for fixed income strategies. The FED says they wil use all available tools to clean up the mess, to me this means commodities will be the best currency, not paper money.    

The “financial crisis” is all over the financial press predicting doom and gloom here in Norway. I’m usually pessimistic, but not on this matter. I’m actually more optimistic than most people. Is 100K unemployed a crisis? Norway had 100k unemployed as late as January 2004: press here for info.

Today Norges Bank will decide on how much to lower the discount rate. On the radio I hear politicians DEMANDING at least 1% lower rates. What a bunch of morons. A low rate might create huge problems in the future. All the worlds central banks seem to do the light version of the Zimbabwe. Who will mop up the increased money supply?  

Low inflation? Most countries report falling prices. Yes, lower energy and food prices have given us lower prices for the short term. However, both energy and food are in a long term bull trend and will ultimately rise again. We came into 2008 with too much debt and therefore we need this recession to clean up the system. Lowering rates will only lead to more bubbles. 

It seems like the US have agreed on a bailout package to the US auto-industry. Supposedly this will help the automakers to keep them afloat until Obama is president next year. 

Sadly, most people want status-quo. But it's not status-quo that makes the world go forward. Increased productivity means some companies have to go bust to let the more efficient ones survive and prosper. Of course, I feel for the people who gets unemployed, but printing money to bail out the industry is not wise for the long-term economy.

What the Western world needs now is a more healthy attitude. The financial crisis is just a result of our way of living. We are too dependent on credit and cheap money. It's like a drug addict who constantly needs to have some more: a disaster in the long run. We need to cut spending and save and invest more.

The downturn in the economic growth has led to a competition-like event between goverments to spend the most money. In my opinion a completely senseless race for spending billions. Here is why:

1. Already too much debt for the average Joe.

2. The savings rate has diminished to almost zero since 2001. People have spent their money chasing consumer goods and/or real estate.

3. Rising real estate prices have made people even more eager to borrow to consume.

If demand is to be kept at the same level as before, it means that borrowing needs to continue. Every sane man knows this is unsustainable in the long run. Thus we need an inevitable recession to sort out the mess. We simply can't finance spending by debt. Too keep on spending will only lead to an even worse situation later.

Here is a link to some very interesting comments from the late Ludwig von Mises, the father of the Austrian school of economics. Read and learn.

23rd of November, 2008
Central banking

Here is a great article describing the central banking system.

The article is taken from Asia Times, an online publication with some very good analysis.

I have received some e-mails asking me why I'm warning about inflation when it's much more likely with deflation.

Yes, right now it is deflation, but I'm talking about 2010 and perhaps even further in the future. Right now the central banks are increasing the money supply, but the "available" money supply probably diminishes. The reason is that banks are being recapitalized to strenghten their balance sheet. They have to lessen the balance sheet and incrase the equity ratio. But when things get normal again, which will eventually happen, the interest rates have to increase or inflation will pick up when all this newly printed money starts chasing the goods.

This article illustrates my thoughts.

It seems like we will have more bailout-packages all over the world. But in my opinion the politicians don't know what they are doing. This week Paulson decided the Treasury is abandoning their plan to buy devalued mortage assets - the plan they unveiled in September. When they first proposed it they obviously didn't have a clue what they were doing. How can we trust these people?

The problem is that the credit expansion and the following real-estate bubble is just to big to solve. The only way to "solve" it is either through a recession or through inflation in the future. To me they seem to chose the latter.

The mess seems a lot worse now than in the 30's. During the great depression, the GDP moved from 103.6B to 56.4B (falling 45%!). Now, with over 10T of debt against 14.4T of GDP, the US are at 70% debt to GDP ratio. If the GDP falls 45% (to 8T) and merely maintained the debt level, new debt to GDP would be 125%!

Will the increased money supply be mopped up? Considering our newly gained financial memory putting us into a new era of regulation, it is fair to assume that upon monetary velocity recovering this money supply will not be mopped up. This injection of money into the system is meant to maintain GDP at current levels with a simultaneous downshift of leverage. As banks hand out the money after they eventually have successfully recapitalized, velocity will pick up and we will start to see inflation. Decreased financial leverage and weak earnings do not put the Fed in a position to mop up excess monetary supply (unless they want another recession). I can't see anything but inflation down the road.

But what about Japan? Don't they offer a guide to what happens when banks fail to write down assets, real estate bubbles collapse, and when deflation is unshakeable? Japan is a different story. Japan has savings to support it. There is real wealth and surplus that affords to keep their yields low. Their amazingly high debt to GDP ratio is supported by gigantic personal savings (in deposits along with annual savings rates). Drawing conclusions from the data point of high debt to GDP ratios alone leads one in an erroneous direction, since it fails to consider the whole picture.

The US don't have that cushion in personal savings. Who else is bigger to absorb their debt for which they do not have matching savings to offset (to keep yields low)?

The basic problem in the US economy is that the US is a service/consumption economy, based on spending and lending. There's no real production or saving in the US; that's all in Asia (and Germany). The US is built on debt, in exchange for (soon to) be worthless paper (dollars), that the US can print as much as they want. What happens when the rest of the world don't want those dollars anymore?

Obama wants to rescue the economy by lending even more and motivate consumers to spend even more. But this is exactly what caused the whole mess in the first place. Instead Obama should focus on transforming the US economy from a service/consumption phoney economy to a 'real' economy with production and saving.

The current bailout money is coming from both lending more money and printing more money, which effectively just creates a bigger problem down the road. This can result in a huge drop of the dollar and a huge recession. The ressesion will come as a result of less spending since more will be forced to save. So this recessions should come as a signal for economic change. Sometimes medicine tastes bad, but will help in the long run.

One week ago I received a postcard from San Francisco blaming the current crisis on free markets. Press here for my response to the postcard.

Those of you who read this website regularly should know by now that I'm really fearful of what is going on in the financial world right now. I fear inflation. A pickup in the inflation rate to over 5% is a real disaster for all of us in the long run. But what is inflation? Most definitions in the financial press is wrong, even the central bankers have it all wrong. All central banks measures inflation simply by looking at prices. They have created a basket of goods which is likely to replicate most peoples living cost. This is called the CPI, consumer price index. When prices rise our purchasing power diminishes. Yes, this is what happens, but the cause for rising prices is not explained. No wonder, because if people really knew most people would know this is just a form of taxation. 

Let us assume for simplicity that all production is one apple and the money circulating is just one dollar. Then an apple would cost one dollar. The year after, productivity has risen and the output is now two apples but now the money supply is three dollars. Hence, an apple would now cost 1.5 dollars. The money supply has risen more than the output and this creates an increase in the prices. It is quite logical. When GDP in a country rises 15% over a decade while the money supply increases 25%, you could be quite sure that the difference is solved as inflation, ie 10% inflation. The money supply is what causes prices to rise. 

But what is wrong with inflation? Inflation makes the future more erratic and hence investments tend to be less and much more difficult. The living standard goes down and unemployment rise. 

Why does the money supply increase? The simple reason is that politicians and bureaucrats are happy to print money to pay for their promises... 

The next big bubble will be the treasuries in most of the western countries, esspecially the US. When inflation picks up after the increased money supply kicks in, interest rates will increase and treasuries fall in value (yield and price go opposite).

The low interest-regime will not work. I mean, the low interest rates and low savings rate is the cause of the bubble. To lower the rates will just make it worse in the future. Noone gets anything in their savings account. How's that for an invitation to go out and spend?`There is a tremndous imbalance between saving and consuming. It’s true that American consumers have long been living beyond their means. In the mid-1980s Americans saved about 10 percent of their income. Lately, however, the savings rate has generally been below 2 percent — sometimes it has even been negative — and consumer debt has risen to 98 percent of G.D.P., twice its level a quarter-century ago.

Banks are now hoarding money because of bad loans, not because of the price of money. This is not looking pretty, and it gets worse every day when these buraucrats keep lowering rates. The latest proposal is designed by the Treasury and the Federal Deposit Insurance Corp. The plan would have the government to share a portion of any losses on a modified mortage offered by lenders. My logic says: Why should I be careful when borrowing? This is quite a provocation for us who are responsible risk takers. Why should they help those who have taken excessive risks?

The main problem is that banks have lent out money which does not exist. It's not the customers deposit which is lent out. Money is simply created out of thin air. Within the EU you can lend out 8 EUR for every EUR in equity. Yes, it's eight times gearing. Fannie Mae and Freddie Mac, the now defunct quasi-goverment companies, could lend out 65 USD for every USD in equity. The central banks are some kind of lender of last resort in this system. Now they are working hard to keep this inflated system from collapsing. How? By printing more money out of thin air. The taxpayers will ultimately pay the bill. Press here for youtube descritption.

This week's short squeeze in Volkswagen is quite a story. Daily Telegraph has written an exellent piece on this gruelling squeeze. This can serve as a reminder about the risk involved in short selling. Theoretically the loss can be infinite, while long positions can only lose 100%. Quite scary.

Just some random thoughts on the credit crisis on a Tuesday evening:

1. Interest rates represent the preference between saving and consumption. Artificial low rates created by public central banks disturbs the production. The incentives to consume instead of saving increases.  There is no reward for saving. Actually, you lose by saving adjusted for inflation and taxes. When rates increase again, all projects dependant on low rates become unviable. This makes the "recession". Even worse, people who have consumed is left with nothing but clothes, steros, iPhones etc: ie. no real value.  Prosperity comes from production (not consumption) and productivity gains. An increase in the money supply only leads to inflation. Money is just a means of exchange. Money can never replace production. If we boost our economy by unproductive consumption it destroys wealth and does not remedy the situation.

2. When the authorities ignore this, it prolongs the recession. By printing money they are not creating wealth, just inflating what we already have. Money has no intrinsic value in todays central banking system.

3. When you save, you're not putting manpower out of work. When saving you're buying capital goods, not consumer goods.

4. The credit crunch is a result of too little savings. The credit explosion has come out of an increase in the money supply. In a free market all credit is because of saving, not printing money. When we see defaults now, it's because the credit explosion happened because of an increase in the money supply, not because of increased savings (the savings rate has gone down dramatically in the last 5 years in the OECD-countries).

5. Banks can't borrow short-term and lend out long-term. This creates a serious risk for default. Banks funding lending with deposits and good collateral are doing just fine in todays environment.

6. Bankruptcy is normal and healthy. When the leaders make mistakes or their product/services are unprofitable, let them go bankrupt. By helping those who make mistakes and are unprofitable, we're just prolonging the situation.

I have written an article in Norwegian about the possible inflation problems ahead. The article was published in Adresseavisen.

The bailout package in the US is, in my opinion, a huge mistake. This will prolong the mess and the dollar will be under pressure from increased inflation. Politicians and bureaucrats will never outsmart the markets. All major central banks are now printing huge amounts of money out of thin air. The bubble will be "solved" by inflating values and basically fixing prices for certain illiquid assets.

There's been a lot of talk on who's to blame. Most people blame capitalism and greedy speculators. But here's my take, in importance of order:

1. Federal reserve: since 2001 they have created huge liquidity through low interests rates. The money supply has risen and inflated values. That coupled with loose fiscal policies from the Bush administration, has been the main culprit for this mess.

2. The government: Since Bush took office the budget deficit has risen dramatically, and logically the dollar has plummeted. In addition, subprime loans have been subsidized by quasi-federal firms like Freddie and Fannie.

3. Wall Street: Sure, they were greedy and are partially to blame. Still, this happened even though they are regulated by the Fed. So more regulation will certainly not solve anything.

Sure, if we do nothing it will be bad, real bad. But it will be over within 1-2 years. Now we will see the worst of all evils: inflation. Years of savings for many people will simply be worthless. Printing money is an indirect taxation. I'm really worried about my savings and must consider buying assets which historically have stood against inflation.

The financial meltdown in the US can't be such a surprise. I mean, any logical man realizes he can't continue borrowing or using credit card to finance his consumption. It's simply not sustainable. Still, US politician and bureaucrats believe it can continue financing it's trade and budget deficit by borrowing. My take: Either the USD will collapse and inflation rise, or they need to do some unpleasant things like for example cut spending or have a higher interest rate.  

But what happens? The new bailout package is yet another incentive to inflate spending and consumption. It's beyond me how this will turn out on a positive note.

The discount rate is now 2% and the inflation is running at 4-5% annually. Any reasonable man knows the interest level is way too low, and has been for years. The Greenspan era will go down in the history as a complete disaster.

The whole title of this book is Predictably Irrational: The Hidden Forces That Shape Our Decisions. The book is written by Israeli Dan Ariely.

The book is meant for the general public, but is highly relevant for people speculating. Some of the stuff in the book can be tested in the stock market. I enjoyed reading it and can strongly recommend it.

The key point of the book: people don't know what they want until they see it in context. We make our decisions based on things that are relative. We don't buy a new coffe machine for 299, but only when we see it compared to another model priced at 599. Our decisions in the stock market are not much different. Today's mainstream economics is largely based on assumptions of rationality. Ariely shows that such assumptions are completely wrong.

A good read.

I have just finished Micheal Covels book called Trend Following. This book has sold over 250 000 copies, but I was very disappointed. First of all, there is no definition of "trend following". I mean, what is a trend? How can you possibly say some managers are trend followers when there is no exact definition? He has given several interviews and charts showing superior performance for several managers. That is fine, but this may be due to curve fitting?

My defintion of a trend: if the last x days were up, then the most likely direction for the next period of x days is up. That is a trend in my opinion (if it really is a significant positive correlation between these two periods). My research in equities indicates there is a negative correlation between such periods, except for very long periods, for example 100 days (most probable to the long-term upward trend in the stock market). I belive trend following performs much better in commodities and currencies. However, the drawdowns using trend following strategies can be quite severe.  Richard Dennis, supposedly the father of trend following, has folded his fund at least twice due to horrendous drawdowns.

The reason I am very critical of trend following is simply the fact that I have tested so many strategies and there is very hard to find any "trends". My best strategies are all mean reverting. Covels book does not really prove anything, IMO.

Over the last couple of months I have spent a considerable time doing research on end of day strategies (EOD). I have been looking at inefficiences ranging from one day to a couple of weeks. I am a mechanical trader and need to develop strategies with no gut feel. All in all I have have about 7-8 strategies that seem to be quite robust, all based on index futures and some commodities. However, it remains to be seen if I'm able to actually trade the strategies as it is a big difference from the daytrading I am used to. The drawdowns are much bigger and harder to endure.  

Over the weekend I read Curtis Faith's Way of The Turtle. This is the book about the legendary "Turtles", a randomly picked group of people trained to become good traders. Overall the group performed well, and Faith describes some of the methodology involved, though I believe most of their strategies performed much better in the 80's and the 90's than today.

The book is easily understood and a very good starter for potential traders new to mechanical trading. He revealed some of the strategies they used and backtested all of them, and it gives an insight in the main aspects of mechanical trading.

One chapter is dedicated to risk and I quote this excerpt (risk is my favourite topic):

"Now I see life as a trader approaches his craft: Nothing ventured, nothing gained. Risk is your friend. Don't be afraid of it. Understand it. Control it. Dance with it. Traders take chances with good expectation but expect to lose regularly. They are not hesitant to act because they're afraid that they might be wrong, a quality that emerges in the kind of life they lead. They follow their own path and don't worry that sometimes they will fail in certain attempts because they know that is part of life, they understand that failure is a necessary prerequsite to success and learning....You cannot learn without risking failure."

He concludes the book by listing the major tasks in a complete trading system:

• Markets: What to buy or sell
• Position sizing: How much to buy or sell
• Entries: When to buy or sell
• Stops: When to get out of a losing position
• Exits: When to get out of a winning position
• Tactics: How to buy or sell

Over the weekend I had a quick peruse in How to Make Money in Stocks by William O'Neil. It's a good book written by a successful investor. I found two quotes worth mentioning:

If you at times get discouraged, go back and put in some detailed extra effort and don't give up. It's the time you put in after 9 to 5 monday through friday that ultimately makes the difference.....Get a job, perhaps an education, and learn to save and invest wisely. Anyone can do it. You can do it.  

I came across a very good article this weekend describing the importance of production and productivity: 

Economic growth means an increase in the amount of wealth that exists in a country--and all wealth must be produced. Houses, health care, air-conditioning and transportation do not come ready-made from nature. We have them only to the extent that individuals and businesses bring them into existence.

Yesterday I had a look in Gary B. Smiths How I Trade For A Living. It's a good book explaining in detail how he trades for a living (and he is actually a reasonable successful trader). I came across this quote on page 196:

"I'm often criticized for my conservative futures trading approach of trading only one contract. But one ingredient of being a successful trader is understanding your limitations. In mye case, I psychologically can't handle losing or giving back any of my trading profits. A significant drawdown in my trading capital would devastate me so much that I would probably close up shop and never trade again. It would be foolish of me to aggressively trade stock index futures in lots of 5 or 10 contracts where I could potentially be exposed to losses from which I could never psychologically recover."

I feel very much the same way. It may reduce my chances of hitting really big, but at the same time it helps my consistency. It may sound very defensive, but I have seen so many traders doing great in one year just to lose again next year. It takes a lot of confidence to come back from a huge drawdown.

Victor Niederhoffer, who has influenced my trading the most, has written a lot of insightful articles. Today I stumbled upon one from 1989 which is very interesting. 

(I am aware of the fact that Niederhoffer "blew up" in 1997 and partially again this year. However, his books and writings are very good input for any speculating endeavour.)  

A bit late, but here is the latest Index Of Economic Freedom from the Heritage Foundation, very interesting reading. In my opinion, this is the best argument for advocating free enterprise and less government intervention to create wealth and diminish poverty. 

Psychology is in my opinion the most important aspect of trading. My own experience form August emphasises that. As most people now, August has been quite volatile, mostly on the downside. However, for a daytrader increased volatility is perfect. But it takes time to get used to it after several years with minimal volatility. In August I have been shaken quite a few days, but still nicely ahead P/L wise. But on Thursday the 16th I had my biggest loss ever, I was even worried I had to wire more money into my account. The reason for this "unnecessary" loss is that I should have adjusted my strategies for this increased risk. After analyzing Thursday night I found out how I could adjust risk. Still, the phsycological damage was huge, and I went into Friday with a "panic mode". And Friday morning FED cut interest rates and the market went flying. I was indeed nervous, I was only thinking about how much money I could lose, not how much I could make. Historically, such days like Friday have been extremely good. But I chickened out and reduced size dramatically.

Needless to day, Friday would have turned out to be my best day ever - by far - if I stuck to my original plan with just a small adjustment of increased risk. Even with 75% smaller size than Thursday I almost made back what I lost.

If you have a proven strategy, stick to it!

It's been a long time since I wrote something here due to a lot of time spent on researching new EOD strategies. I just bought myself a new program called TradeSim and have spent a lot of time running simulations there. It seems to be a decent program for that cheap price.

Over the last two weeks I have also reread David Dreman's Contrarian Investing. I bought the book back in 1998, but I get a lot more out of it now than then. He presents four strategies which have consistently beaten the averages for decades. All four strategies focuses on value investing. It's all well documented. I believe Skagenfondene is using the similar investment strategies.

The book is highly recommended.

1. Avoid inside information.
2. Never make an investment on enthusiasm or excitement.
3. Use your own judgment.
4. Pay for info rather than getting it for free.
5. Consider earning value and market value. The man who buys real estate looks to the enhancement of value more than to earnings.
6. Don't lose confidence. The investor hears rumors of impending disaster, which, if he would reflect upon, he would see would have no effect on his security. This applies to bank runs.
7. Stay away from names. (Even then there were touts and promoters.) No high sounding titles can make it a success if it lacks the true qualities of success itself.
8. Don't put too much reliance on advertisements, especially red paints.
9. The losses through mining investments (not tech) are greatest. Beware of promoters who have no reputation to lose.
10. The greatest mistake is one of pessimism and doubt. Never let your mind fall into that chasm. Do not think because you have lost money in one investment that all are unsafe.

Being highly sceptical about the recent propaganda about the end of the world as we know it, I recommend reading this article by Bjørn Lomborg, which has a much sober perspective about global warming.

2006 was a good year for me, trading wise. I traded 251 days (not one day off, some would say: get a life! I agree on that...) and lost money only on 15 of these. I am very consistent, but my profits could be higher if I took more risks.

Here is a graph of my accumulated profits for the year:

I had a very good day in April and a horrible day in July, as can be seen from the graph. Except from that I was very consistent.

The key is to trade several strategies which are not very much correlated. 

During christmas I had the pleasure of reading Roland Huntfords book about Roald Amundsen and Robert Scott and their endeavour to reach the South Pole first. Whenever I read biographies like this it strikes me how many similarities there are between trading and for example the race to reach the South Pole. It was no coincidence that Amundesen suceeded and Scott failed. In my opinion the book provides insight into two very important factors about trading:

• Rigirous planning: Amundsen planned every minor detail, Scott didn't. Who in their right mind bring down ponnies to the South Pole (Scott did)?
• Rationality: Wherever Scott tried to overcome "mother nature" by force, Amundsen realised there was no shortcut.

I have just come back from three weeks in Malta. I have been considering relocating to the island, but my "dreams" were shattered by the internet infrastructure. Malta is a lovely spot with an English-speaking population, but of no help for me as the internet connection was horrendous. All the telecom cables from Malta to the mainland is owned by the state-owned Maltacom and private operators are not allowed to compete. The ISP buys bandwith from Maltacom and the ISPs have limited download capacity. My trading software downloads quotes continuously and is therefore "abuse". I don't get priority, only "big" companies get priority.

Too bad for me. It was great having breakfast on the balcony in sunshine every morning. Now I am back to the rain and miserable weather. 

The Statistical Bureau (SSB) of Norway has just published some interesting numbers: only 16,6% of those who start a personal business (not as an incorporation) is still in business after three years. Of course, this is mainly due to disappointing earnings.

In my opinion this reflect that trading or speculating is not any more risky than starting any other business venture. You need to spend a lot of money to open a fashion store or a pizza joint. When speculating you have the opportunity to preserve your capital in a much better way. In that respect I feel that speculating, when done properly, offers a much better risk/reward than most other business ventures. Speculating does not need to be risky. 

(A sidenote: think about those leveraging their homes. This is not considered risky by most people for some strange reason.)

It seems like the returns from Latitude (see my previous comment) was all due to luck. After reading what really happened with the fund, they were not any mavericks after all (when they had stellar returns in 2004): it was all a coincidence. They were betting on falling interest rates in the US and UK, and rising interest rates in Norway/Scandinavia. That was a "good" strategy in 2004 and the first half of 2005, but a disaster after that. When thet started losing money in the second half of 2005 they had simply no plan how to mange losses. They hold onto their position hoping for the best. They even managed billions of kroners with this strategy.

When I look at other hedgefund "strategies" as well, I am surprised how naive many of the strategies are. I am not saying I would do any better, but when I read about funds that are for example long oil and short the dollar as a "hedge", I get the feeling there are many accidents waiting to happen.  

I am an investor in Helios 2xL, a hedgefund that invests in  seven other hedgefunds, all managed by swedish Brummer and Partners. One of the funds, Latitude, is partly managed from Norway. In early 2005 this fund was ranked as the best "newcomer" among Europeans hedgefunds. Surprisingly, on August 18th the whole fund was closed down!

If we have a closer look at the return of the fund it seems more like a disaster just waiting to happen. The return were stellar from the start until the summer og 2005, but since July 2005 the fund has delivered BIG negative monthly returns in 11 out of 13 months. It peaked by losing 6.8% in just three weeks in August before someone finally pulled the plug (to my relief). The equity curve tells me this is all randomness. Their strategy worked great for a while, probably due to good market conditions for the strategy, but it all went downhill after the market changed. The funds Sharpe-ratio (look underneath for an explanation) is abysmal.

The directors of Helios 2xL made a big mistake by investing in this fund only after some months performance. IMO, a fund needs several years to establish a rack record. It makes it even more ridiclous that the fund was ranked among the best! One needs to be careful when investing.

Most mutual funds and hedgefunds are measured by using the Sharpe Ratio, an indicator developed by professor William Sharpe. The ratio tries to measure the relationship between returns and the risk taken to obtain that return.

The ratio is explained here.

Trading systems with a ratio above 2 is considered very good and ratios above 3 outstanding, according to the link above.

I have been daytrading for almost 5 years and yesterday I decided to try to measure my own Sharpe ratio. Since I started daytrading in 2001 I have booked 57 consecutive months with profits and only had four losing weeks since October 2003. Since 2001, 2002 and most of 2003 was a period with little trading, albeit profitable, I measured my returns since October 2003 until May 2006, a total of  32 months of daytrading (that is when I really put an effort into trading).  I calculated the return by using 10 times leverage, in other words, the return is measured against 10x leverage, not on my equity deposit. Multiply the return with 10 to get the return on equity. It is impossible to know exactly the gearing as it varies from day to day, but I used 10x as a proxy. That is probably my average.

Here is my numbers (all is net of all costs):

• Monthly return: 2,7%
• Yearly return: 32,4%
• Monthly standard deviation: 1.72%
• Risk free return: 4%
• This gives a Sharpe ratio of 4.07

I have yet to see a fund with a better risk adjusted return, but of course it is impossible to get such a return on a much bigger amount of money.

That is the title of a book by Ed Thorp, written almost 40 years ago. It is about how to beat the dealer in blackjack, a card game widely played at casinos.

Yesterday there was an interesting programme in the state owned television here in Norway, NRK. In short, it was about how to beat the dealer and actually win money and take money from the casino. Blackjack is the only game where it is possible to beat the casino in the long run.

Beat The Dealer has inspired my trading a lot. It shows it is possible to win money if you are good at probabilities. It is the exact same in the stock market: by utilising the scientific method and counting observations there is possible to find inefficiencies and tradable patterns. It is hard work, but is the only way to extract money from the market year after year.

Beat The Dealer might give you some interesting insight in how to approach the market properly.  

In the current issue of Praktisk Økonomi og Finans there is an article written by me about daytrading (Norwegian only). You can read the whole article by pressing here (Acrobat reader needed).

No doubt that daytrading for many is associated with "gambling". This article about daytrading is typical in that respect. As usual the article lacks facts and documentation. Take this for example:

"And since markets' daily moves are random, there is a chance day traders can make money in the short term."

As far as I know there is no SCIENTIFIC evidence that proves this. There is a lot of randomness in the stock market, no doubt about that, both long and short term. However, there are many successful daytraders making tons of money exploiting inefficiencies.

I believe any rational speculator can make money daytrading. If there is no edge to be found, obviously any rational speculator will stop trading and start looking at other timeframes. Steve Cohen, a hedgefund manager with a very good track-record, is doing a lot of daytrading. He would not do that if he could not make money.

However, the risk of ruin is bigger in daytrading than long term investing due to commssions.  

Reason Magazine just published an interesting article on fear. The risk/reward decisions we make in the markets can also be applied to other parts of risk taking in everyday life. However, with more regulation to fulfil the "precautionary principle" we can expect economic stagnation:

"The strongest versions of the precautionary principle demand that innovators prove that their inventions will never cause harm before they are allowed to deploy or sell them. In other words, if an action might cause harm, then inaction is preferable. The problem is that all new activities, especially those involving scientific research and technological innovation, always carry some risks. Attempting to avoid all risk is a recipe for technological and economic stagnation."

It is the same in the financial markets. You need to be bold and embrace risk to make money. Faint heart never won the fair lady. 

"The fear that actions like inventing new medicines, chemicals, and energy sources might have unknowable, irreversible, and ultimately catastrophic effects in the future leads to Furedi's third factor. Even as more people are living longer and healthier lives, life is perceived as a very dangerous thing. The boundary between analysis and speculation is eroded as worst case scenarios proliferate. What if an asteroid hits us; what if biotech wheat gets out of control; what if Iraq is giving weapons of mass destruction to terrorists? Worst case thinking decreases our cultural capacity to deal with uncertainty. Risk becomes something to avoid, not an opportunity to be seized."

This weekend I finally read the famous story about the pencil by Leonard Read. A highly political (short) story, I recommend everyone to read it to understand the benefits of free markets. I quote from the afterword:

"For its sheer power to display in just a few pages the astounding fact that free markets successfully coordinate the actions of literally millions of people from around the world into a productive whole.....No newcomer to economics who reads "I, Pencil" can fail to have a simplistic belief in the superiority of central planning or regulation deeply shaken."

Press here to read the story. (Press here for the Norwegian version.)

Let the conclusion of the story be a reminder to all legislators of the world:

"The lesson I have to teach is this: Leave all creative energies uninhibited. Merely organize society to act in harmony with this lesson. Let society's legal apparatus remove all obstacles the best it can. Permit these creative know-hows freely to flow. Have faith that free men and women will respond to the Invisible Hand. This faith will be confirmed. I, Pencil, seemingly simple though I am, offer the miracle of my creation as testimony that this is a practical faith, as practical as the sun, the rain, a cedar tree, the good earth."

Underneath I have collected some typical "lies" from the stock market. I think a lot of people will recognise these:

1. Top lie in the stock market: "I dont daytrade!" (Investors feel ashamed of their short term inclination)
2. "I would be up money this month if it weren't for the commissions." (Nice excuse for bad trading)
3. "All I have to do is make two points a day, on a two-lot, to make a nice living." (Seems so easy, so darn difficult real time)
4. "I knew it, but I didn't trade it, darn it." (Sure, everything is easy on paper)
5. "I was right, just too early, my timing was off." (Always a good excuse)
6. "If it weren't for that one big loss last year I would have made money." (Yes, if it werent for the inevitable losses)
7. "I am about even." (Stopped looking at the statements a long time ago.)
8. "The secret to day trading is: never risk more than two ticks." (Bleeding to death.)
9. "A chat room run by a true super trader, join now to move from one winning trade to the next." (The "supertrader" does not trade or trades one-lots, moves from one losing trade to the next.)
10. "When this line crosses below that line and turns up, buy. It is an art though, it must be interpreted, not followed blindly." (You'd be better off trading blindly. Random.)
11. "Always wait for confirmation." (Buying at short term highs, bad fills, losing the edge on most occasions.)
12. "Trail a tight stop after entry, locking in profits." (Shaken out of any chance for a good trade.)

I have been investing in the stock market reasonably successfully for some years now. Reflecting over that I think I have some "assets" which are quite nice to have when investing in the stock market:

1. Very good work ethics. I think high IQ is overrated in the stock market (I have taken one IQ test where I scored average). It is a much better asset to have good work ethics than to be intelligent. Sure, I would not say no to being more intelligent, but I would prefer good work ethics above intelligence anytime (given, of course, not being totally stupid).

2. Disciplined and focused. When I set my self goals, I do not stop until I am fully convinced it is a waste of time.

3.Adaptive and flexible. In the stock market you need to face the facts and do whatever necessary. I am rational most of the time, at least when analyzing, but as most others I sometimes lose grip of things in the heat of the moment. Typically that happens when losing money, as happens from time to time.

4. Know the risks. In the long run the money I make is in direct proportion to the risks I take. There is no free lunch. Before doing anything I have to know the potential risks. In the long run risk takers fares better (economically) than the those who does not take risks. Of course, the potential ruin factor has to be determined and avoided.

I have lived long enough to realize the most important lesson life has given me: Nothing is impossible and you have to face risk to achieve something (and make sacrifices). All is up to you and there is noone but you to blame if your dreams are not achieved.  

Opticom, listed on Oslo Stock Exchange, has been in "play" in November and December in 2005. While the share prisen has more than doubled, the number of people who has lost money is far bigger than the number who has made money. iMarket has written an article about this. Typically the losers are the small players.  However, the article is a bit inaccurate, but I think its conclusion is right. The main role for the small unprofessional players is to provide energy to the better "predators" further up in the chain.   

I have written about this earlier in this article. The one specualting against "predators" with better knowledge is sure to lose. 

We have a new goverment in Norway (since October), a coalition between labor and the socialists. They have already started working: increased taxes, abolished private schools and now they want to make gambling on the internet illegal. A new committee will look into the possibility of making transactions from Norwegian bank accounts to gambling sites illegal. They will only accept gambling which is run by the state. I guess we have to get used to such an ideology for the next four years. There will be more people in the bureaucracy, more businesses run by the state, more taxes to pay and much more paternalistic regulation, just like the gambling rule indicates. Put shortly, most things I like and appreciate will be made more difficult to achieve. It might be small things, but it all adds up. Parts of the new goverment have even publicly said that they despise people like me making money on stocks and capital. Of course, I am just a parasite making a living on others labor.

Sadly, marxist theories still prevail.

I have had a couple of weeks with holiday in Malta enjoying some sunshine and reading. I had the pleasure of reading the autobiography of Sir Richard Branson - Losing my Virginity. It is a great read. But what really struck me is three things:

First, it takes a lot of risk to accomplish what he has done. He is a success but along the way he has taken some stomach churning risks. Actually, I would say he is close to a reckless risk taker. His balloon journeys, for example, where he almost got killed two times because of (in my opinion) negligence for details. It is much the same in his business life.

Second, I think the element of luck is much more important than Branson would like to admit considering his risk taking. There are so many people trying just the exact as he has done. In the end someone has to succeed. There are thousands of people trying the same, and in the end there have to be someone successful.  I know the issue of luck will provoke a lot of people. But Nassim Talebs Fooled by Randomness, a book about probabilities which I read three years ago, really explains this well.

Third, reading between the lines it seems like it is his record company, Virgin Music, is where he has made all his money. Why on earth he started the Virgin airline is beyond me, but obviously to diversify (which it certainly was compared to his other businesses). Seems like the record company subsidized much of the other ventures.

All in all, It was a good read, but his business life seems a bit reckless to me.  

22th of October, 2005
Volatility on the rise

October started off nicely with a substantial rise in the VIX, the volatility indicator. This has been a gift for us daytraders. With the increased volatility the P/L has also risen quite much. During the summer there was hardly any "action" at all, so this rise in the VIX is very welcome. I would like to see some more fear in the markets....there is simply more to prey on.

On wednesday 5th of October there were two articles/commentaries about daytrading in Dagens Næringsliv, the financial daily here in Norway. Put shortly, they described the foolishness about daytrading. They claim there is no new information to drive the prices up and down intraday and as a result it is all randomness. Admittingly, there is a lot of randomness intraday. However, I have daytraded reasonably successfully for four years and make money almost every day. That is not randomness. I can assure that there is big inefficiencies in the stock market on a daily basis, but it is impossible to trade much size on it. So only small predators like me can feast on the prey.

Typical there are inefficiencies in how the trades are filled and how the stock exchange operates. There are also pure arbitrage strategies between stock exchanges which are still tradeable even after the rise of the Internet.

There are opportunities, typical at the opening and at the close. But just like any other strategy, it takes time and discipline to find them. 

17th of July, 2005
LAs valuable lessons

7th of July, 2005
Niederhoffer

Victor Niderhoffer, a famous hedgefund manager, has been interviewed by RealWorldTrading. This is a guy most people like to hate, esspesially since he blew up in 1997 in a dramatic way, but for those with an open mind he can give som incredible insight. His books are strongly recommended.

28th of June, 2005
No movement!

4th of June, 2005
Quantitative analysis

Basically all my analysis is based on some sort of quantitative analysis. By that I mean number crunching in Excel trying to find an edge by using "the law of big numbers". I trade many and small instead of few and big.

I came across an interview of Aaron Schindler the other day. This is a guy with a degree in physics and running his own hedgefund (his website is here). I think his comments make it quite clear how one can use quantative analysis in the field of finance:

"People involved in theory do a lot of equations on the blackboard, and write papers and teach. Experimental physicists build experiments, collect data, analyze data, write papers and do some teaching, too. Part of my job as an experimental physicist was working with technicians and building these experiments with a lot of soldering, and the use of hands-on electronics. Another part of my job was taking the resulting computer data files and writing programs to analyze them looking for signatures for new particles, or other things that we were studying. I really liked the part of programming and data analysis. I found out that working for Monroe Trout in quantitative finance, that I could get a job doing exactly that. So when I went to go work for him, I was writing programs analyzing market data, instead of physics data.....My suggestion to the readers is try whatever you think works, but do it in a systematic, scientific way....try to be as quantitative as possible with your trades. Keep records of your entries and exits. As you build up your trading data you’ll be able to see what kind of trades are most profitable. Maybe you do better on the short side or in a particular industry or market. Study your records so you can focus on your strengths."

Press here for the whole interview.

31st of May, 2005
Bicycling and speculating

Those who are interested in bicycling, like I am, had some terrific hours in front of the telly last Saturday when Paolo Savoldelli won the Giro di Italia in a "climbing thriller" on the leg to Sestriere. The leadership changed three times before Savoldelli finally managed to gain the necessary seconds to secure first place overall. The interesting thing is that Savoldelli neither is a particularly good climber nor a time trialist (and he even had a shitty team to support him) but still managed to win the grand tour (and that even after two years wth injuries). Savoldelli made some interesting comments after the thriller:

"I don't feel like one of the great champions of the Giro, because the old champions used to attack on the climbs and make a big difference to the show. I'm more of a regular rider, and I have to calculate a lot, because I know what my limits are.....I was afraid at the beginning of the climb [Finestre], because the pace was going so fast. I didn't think I was going to make it. I went at my own pace. I was very careful to eat and drink enough on the climb, the most important thing was not to have a crisis."

As I have mentioned several times on these pages: We are all speculators. Savoldelli knows he does not have the edge in attacking in the montains or in the time trialling, but still he managed to win the Giro by limiting his weaknesses. 

What is the lessons here for potential speculators?

First of all, you dont need spectacular skills to succeed. Secondly, just like Savoldelli, know your strengths and weaknesses and play accordingly. And finally, measure risk against reward all the time. Savoldelli was fighting for the pink jersey, but still he knew that he would have a crisis if he pushed himself to hard on the climb (and then surely would lose it all). The best thing he could do was to go at his own pace, even though he lost seconds gradually. It was simply the most rational thing to do. 

24th of May, 2005
Pension reform?

As most people in Norway are aware of, the state pensions were "reformed" on May 19th. As usual there is much noise in the media about this, but very few commentaries worth commenting. But Jan Arild Snoen  has a really good commentary on the webpages of Civita, a quasi-liberal think tank. He has cut to the bone what this reform really means. Click here for the article.

22th of May, 2005
Hedge Funds getting hammered

According to Hennessee Group, a hedgefund advisory firm that compiles an index for hedgefunds, says that hedgefunds lost 1,9% in April. The firm reckons it reflects at least 50% of the capital in the industry. Trying times for the hedgefunds. This comes at the same time as the industry manages more and more money. Is this a coincidence? I doubt it. The funds need prey to grow and it seems likely that "overcrowding" leads to less prey.  There are too much money chasing similar strategies. Is there a lesson to be learned? Yes, if you have something going, by all means keep it to yourself.

12th of May, 2005
Rich by inheritance or hard work?

About 8,2 million households in the US have assets worth more than 1 million USD, excluding primary residences, according to this article. More intersting though, is that 80% of these are first generation rich, contrary to marxist theory. Fewer than 20% inherited 10% or more of their wealth. Economic mobility makes it impossible to ascertain where you started in "lifes lottery", as the leftist likes to call it. The same article says that according to IRS tax data, 85.8 percent of tax filers in the bottom fifth in 1979 had moved on to a higher quintile, and often to the top quintile, by 1988. Quite interesting stuff. It indicates there is oppurtunities for those brave, bold and hard working.

5th of May, 2005
Happy to pay taxes?

On a day with very little news the most frequent headline seems to be the survey indicating that most people are happy with todays level of taxation (in Norway). That does not surprise me, but one thing barely mentioned in the survey is the following: the less income the less happy with the level of taxation. It is the highest earners that care less about taxes. This is what I have always argumented: it is the "poor" who gets worse off by increasing the taxation, not the rich. The ones with the most resources, both capital and intellectually, get away with more creative solutions. Strange that this issue never gets debated in the media and among the politicians. The most apparent solution is to lower the taxes, but with a swelling public sector that keeps on snowballing that is impossible.     

• En kule
• Hvitvasking
• Freshwater

(They are not translated to other languages, to my knowledge.) They are all about financial markets and well worth reading.

Think about ski jumping in 1987. When Pjotr Fijas set the new world record in Planica at 191 meters, the international ski federation said that noone was allowed to jump more than 191 meters (at least that was all the jumpers would be credited even if they jumped 200 meters). This should reduce risk and increase safety to stop the "madness" towards longer ski jumps. What a ridicilous regulation. Today the ski jumpers jump almost 240 meters with much less risk, hardly anyone gets any serious injuries these days. All this thanks to Jan Bokløv, a shy Swedish ski jumper laughed at from 1988 to 1992. He started jumping with the skis forming a "V" - simply because it was much more effective. As usual the powers that be tried to disallow the style, but when the others found out how effective it was it became the norm and the rules changed. This style is now called the "V-style", a shame for the inventor Jan Bokløv. It should have been called the "Bokløv-style" to honor the man who revolutionized the whole sport.

The moral: you cant stop development. The creative forces in man gets the world going to create new solutions and techniques, thanks to the risk takers (of any kind).

After several of my strategies got illegal from this year, courtesy of the SEC, I have done a lot of research. I have found several very profitable strategies, but the biggest obstacle to carry out these in real life is the uptick rule: it is impossible to get a short sale because the stock only goes down without an uptick. Sad, but true. It is beyond me all these unnecessary regulation.

The daytrading rule established last year is another illustration of this.  Put shortly, everyone who makes at least three trades per week are considered a "daytrader" and need at least 25.000 USD in their account, otherwise the account will be suspended or you need to make fewer trades. If you have less than 25 000 you can only invest, not trade. The reason? To prohibit "excessive" speculation among "undercapitalized" traders. As a result speculation in the MORE RISKY futures and option markets have increased. There is no way you can control the capital flow. The only losers by too much regulation is the nations wealth creation as the cost of doing business increases.

Do I sound bitter? I am, because there is no need for this regulation and it costs me money. 

Many think that speculating is an easy way of making money. How far this is from the truth really struck me when I read the interview with Brian Gelber in Market Wizards. I think trading and speculating is a very time consuming endevour. This quote from Gelber really illustrates what I mean:

"Four out of twelve months you are hot. You are so exited that you cant sleep at night. You cant wait to get to work the next day; you are just rolling. Two months out of the year, you are cold. You are so cold, you are miserable. You cant sleep at night. You cant fugure out where the next trade is going to come from. The other six months out of the year, you make and lose, make and lose. You cant sleep, because you are trying to figure out how you are going to make money. The net result is that you never sleep, because you are constantly thinking too much about trading. It is an all consuming thing."

Rogers illustrates the importance of patience when speculating:

"...One of the best rule anybody can learn about investing is to do nothing, absolutely nothing, unless there is something to do. Most people - not that I am better than most people - always have to be playing, they always have to be doing something.....I just wait until there is money lying in the corner, and all I have to do is go over there and pick it up. I do nothing in the meantime."

I also reread Stock Market Wizards by Jack Schwager over the weekend. He interviewed Mark Minervini who stressed the following (page 177):

"..The key is to know when to do nothing. Most people, even if they have a winning strategy, will not follow it because they lack discipline. For example, everyone knows how to lose weight: you eat less fat and exercise. So why are most people overweight (assuming they have no medical problems)? Because they lack discipline."

6th of March, 2005
Freedom works

The Economic Freedom of the World: 2004 Report recently released by Canada's Fraser Institute rates countries according to their economic freedom. It shows that free nations attract nearly $11,000 of investment per worker, 12 times more than the $845 investment per worker in unfree economies. Free economies attract $3,117 of foreign direct investment (FDI) per worker, compared to $68 for the least free nations. Economically free nations experienced 3.4 percent growth a year from 1980 to 2000, compared to just 0.4 percent for unfree nations.

27th of February, 2005
Good and bad bets

During the last week I have reread Market Wizards by Jack Schwager. The interview with Larry Hite on page 175 really struck me. His trading philosophy is quite similar to mine (except the fact he is probably making 1000 times more money than me). He is only concerned about the risk and the law of large numbers. The law of large numbers is something I aim for in every strategy I employ. If I have an edge I want to get as many posistions as possible to eliminate luck and randomness. I will let some quotes from Hites interview do the talking:

"The insurance business provides a perfect analogy. Take a sixty-year-old guy and you have absolutely no idea what the odds are that he will be alive one year later. However, if you take 10 000 sixty-year-olds, you can get an excellent estimate of how many of them will be alive one year later. We do the same thing: we let the law of large numbers work for us....Because we know that we dont know.....If you never bet your lifestyle, nothing bad will ever happen to you. Second, if you know what the worst possible outcome is, it gives you tremendous freedom. The truth is that, while you cant quantify reward, you can quantify risk....There are really four kinds of trades or bets: good bets, bad bets, winning bets and losing bets. Most people think that a losing trade was a bad bet. That is absolutely wrong. You can lose money even on a good bet. If the odds on a bet are 50/50 and the payoff is 2 versus a risk of 1, that is a good bet even if you lose. The important point is that if you do enough of those bets, eventually you have to come out ahead."   

13th of February, 2005
Inevitable losses

6th of February, 2005
Luck or skill?

26th of January, 2005
Are the capitalists exploiting the poor?

At least , that are what we are being told even in school. For those interested, here is an article by George Reisman which is quite interesting. Here is an abstract:

"For more than a century, one of the most popular economic doctrines in the world has been the exploitation theory. According to this theory, capitalism is a system of virtual slavery, serving the narrow interests of a comparative handful of businessmen and capitalists, who, driven by insatiable greed and power lust, exist as parasites upon the labor of the masses. 

This view of capitalism has not been the least bit shaken by the steady rise in the average standard of living that has taken place in the capitalist countries since the beginning of the Industrial Revolution. The rise in the standard of living is not attributed to capitalism, but precisely to the infringements which have been made upon capitalism. People attribute economic progress to labor unions and social legislation, and to what they consider to be improved personal ethics on the part of employers."

22th of January, 2005
The mentality of speculating

Speculating is very much a mental game. I, for one, could have made a lot more money if it was not for my risk aversion. That is often a mental block. A am very much focused on a steady and rising income curve, although I would be better off (for the long term) by taking more risks, but at the same time having bigger drawdowns. That is the pain with speculating. No gain without pain. That is what all progress is about. 

To believe in yourself is the most important thing in speculating (and of course to be right, but it is astonishing how little anaysis is needed, you need to find the right trigger). You need to believe you can make a comeback after suffering losses (which is inevitable from time to time). I know a guy that last fall lost about 200 000 USD in Ementor on Oslo Stock Exchange after they issued a profit warning. This was about 25% of his net worth, I guess. I would have needed a long break after such a loss, but this guy was so confident he could make it back in a couple of months. And he did. This guy is really unbelieveable good at keeping focus on what is important: to find good strategies and opportunities. Money is just a way of keeping score. He started with almost nothing four years ago and is now a millionaire (in dollar) and speculating full time. At least it shows that anybody can do it if you have a passion for it. Dont let the naysayers influence you! 

This is a link to some interesting interviews about traders. Take a look at it and read. Quite interesting, esspecially the mental aspect.

15th of January, 2005
Words of wisdom

www.dailyspeculations.com is a website I highly recommend. Not easy to grasp, but some very knowledgeable people contribute on this site. Here is one paragraph:

"Very few people have what it takes to honestly pursue success. Because it is easier to fail than to succeed. It is easier to run with the crowd than to rise above it. I wonder if that is not what true nobility is; never sacrificing our intelligence, never dumbing ourselves down to make another feel better, never finding ways to fail so that we can be embraced by the many who are only too eager to take and give comfort in our failures. People like to tell themselves they are afraid to fail. We hear it every day. But the hard truth is that people are more afraid of success than failure. They always will be afraid of succeeding. The harshest realization is not that there are people out there who may be better than we are, or smarter, or more capable, but that there is NO ONE out there who is better than we are, or smarter, or more capable. Those who can handle that awesome responsibility, that difficult point of recognition, without collapsing from it and retreating to the comfort of the crowd, are the true heroes. Without them there would be no hope."

8th of January, 2005
USA towards socialism?

Perhaps not quite (yet). Long a symbol of economic prosperity, America for the first time no longer ranks among the top 10 free nations of the world, according to The 2005 Index of Economic Freedom, just released by the Heritage Foundation and the Wall Street Journal:

"Out-of-control government spending is partly to blame for America's standing, but so is competition, writes Heritage's Marc Miles in his introduction. "The U.S. is resting on its laurels," he explains, "while innovative countries around the world are changing their approaches and reducing roadblocks."

The U.S. must make a choice, concludes Miles. "Is it to remain the symbol of economic freedom in the world that was, or is it going to take the steps needed to regain the leadership in the world that is and will be?""

Norway is number 30. You can view the whole ranking here.

Economic freedom is the measure of the roadblocks governments put in place that prevent their citizens from achieving success. Not surprisingly, countries with the greatest economic freedom enjoy strong economic growth. Unfree countries, conversely, do not.

30th of December, 2004
Flat tax is sweeping the world

Romania introduces a flat tax rate of 16% from 1st of January. This increases the tax competition for the "old world" in the EU. Romania has discovered that simpler and lower tax rates generate more revenues because they make avoidance and evasion less worthwhile. And lower rates encourage entrepreneurship, stimulate employment, and spur economic growth. A simple remedy for the benefit for us all (except the bureaucrats).

That said, Romania still has a long way to go - establish rule of law among other things. But the experience of other Eastern European countries is that a simple flat tax system goes a long way in the fight against bureaucracy and corruption.

28th of December, 2004
Freedom progressed worldwide in 2004

Contrary to what you might believe after watching the news every day, freedom progressed worldwide in 2004, according to Freedom House.

• Of the world's 192 states, 119 are electoral democracies (89 Free and 30 Partly Free), an increase of 2 since 2003. While these states are not all rated Free, all provide considerable political space and media access for opposition movements and allow for elections that meet minimum international standards of ballot secrecy and vote tabulation.
• Over the last 15 years, the number of electoral democracies has risen from 69 out of 167 (41 percent) to 119 out of 192 (62 percent). On average during that time frame, an additional 3 states have adopted minimal standards for free and fair elections each year.
• Freedom further consolidated in Central Europe. Five of the new EU countries—the Czech Republic, Estonia, Hungary, Poland, and Slovakia—achieved the highest possible survey rating: 1 for political rights and 1 for civil liberties.

IMO, the most interesting transition over the last decade is Estonia. They have done most things the correct way, and have now surpassed East Germany in living standards. Estonia liberalized, East Germany relied on subsidies from the West.

19th of December, 2004
The cost of regulation

A European Competitiveness report from the European Commission puts the cost of the EU’s mounting regulation burden at over 1 trillion euros (1.33 trillion US$), according to Adam Smith Organisation. The report, highlighted by Allister Heath in The Business, draws on analysis from the US Federal Reserve Bank which puts a cost on Europe’s failure to reform its economy on US lines at 12.4% of GDP per year.

No wonder. This is a political problem which the EU imposes upon itself. The economies of China and India are surging ahead with growth rates of 7-9% (and liberalising more every year - thus becoming more and more competitive), with the US economy expected to grow perhaps twice as fast as the EU’s (and much faster than the euro zone’s). But Europeans favour an alternative model to a competitive, flexible, free market economy. They prefer a more "social" model with high levels of welfare and benefits, plus restrictions on work hours, generous early retirement, and fringe benefits such as lengthy maternity and paternity leave. This, of course, has to be paid for from the wealth created by business; and the problem is that its high costs in taxes and regulation make it increasingly difficult for business to generate that wealth. Instead it moves to the more flexible, vibrant economies.

15th of December, 2004
Arbitrage strategies

Here is an interesting article which describes what merger arbitrage is. Too bad this is a strategy which is very difficult to do intraday as the trading climate is very tough. 

And here is one which describes market neutral strategies in general.

29th of November, 2004
Paternalistic regulation

Many politicians believe they know how to run our lives better than we do. They think that they are better able to spend our money than we are. They think it is their duty to decide who may marry. They believe it is their duty to ban us from doing things we enjoy but which may be harmful to us. They feel justified in stopping us buying alcohol after 6 PM or gambling. And they heavily tax anything they disapprove of.

Last year the bureaucrats intruded the stockmarket - again. The lawmakers in the US implemented the new PDT rule. Put shortly, everyone who makes at least three trades per week are considered a "daytrader" and need at least 25.000 USD in their account, otherwise the account will be suspended or you need to make fewer trades. The reason? To prohibit "excessive" speculation among "undercapitalized" traders.

As a result speculation in the MORE RISKY futures and option markets have increased. There is no way you can control the capital flow. The only losers by too much regulation is the nations wealth creation as the cost of doing business increases. 

IMO, this is immoral. The government is not supposed to say what is a proper use of ones money. This is your own responsibility, not the bureaucrats.

My biggest worry is that the authorities will increase the regulation among professional traders. If a professional firm goes belly up you can guarantee that the SEC will put the brakes on. You never know what politicians and bureaucrats will do. They show the most short term and erratic behaviour there is. The worst part is that I am financing the SEC. I pay a small fee of my stock sales which goes to SEC.

7th of November, 2004
Losses and fear

To win in he market you need to be both humble and aggressive. Trading is very much a mental game, just like for example poker, and there is a thin line between success and fiasco. In any speculating endeavour there are many who have fallen by the wayside. To crawl back up again from a devastating loss is very tough to do. When starting all over again the fear might be too strong. The thought of the abyss may make you too risk averse and nervous. When fear controls you, it is time to call it quits.

I believe very few boxers have ever gotten up from a devastating knockout but instead leaving the field for good, never to be heard from again. It is the same with speculators. A huge loss ruins your confidence.

Trading is a difficult way to earn your living. Being a winning trader dominated by fear is impossible. If you dwell all day on the possibility of loss, you will find that the market will indeed deliver an overhand right and the left you were scared of never shows up...but you re still on the canvas in the corner waiting for the smelling salts.

The moral? Better safe than sorry. Protect your capital too fight another day.  

31th of October, 2004
Regulation - a big industry?

"It's official. Regulation is now Britain's biggest industry. David Arculus, the Chairman of Severn Trent Water and head of the government's Better Regulation Task Force, suggested last week that the cost of regulation to the UK economy was now more than £100 billion a year. That's more than a tenth of our gross domestic product (GDP). That's bigger than tourism (£76 billion), or our much-vaunted financial services industry (£66 billion), or even the National Health Service (£67 billion and rising - and rising)".

The quote above (and below) comes from Adam Smith Organisation blog. IMO, most of the regulation is a justification for altruism. And the worst thing is that the regulation never gets questioned if it achieves its purposes or not. Politicians and bureaucrats think they have to intervene everywhere to improve our lives and make us happier. What an illusion. What about those who get sacrificed with the new regulation? Why cant we be free to pursue our own goals as long as we dont interfere with other peoples liberty to do the same? 

"The truble is that, when you have tens of thousands of regulations, nobody can run a business free from the fear that they are transgressing some rule. So businesspeople waste vast amounts of money trying to find out what the rules are, and then making sure they have enough 'compliance officers' to stay on the right side of them.

Unfortunately, state intervention usually stops people from doing what they want to do - and ends up making them less happy. In a market economy, people exchange goods, services and money voluntarily because they believe they will benefit from the exchange. Swapping what they have for something they want more makes them happier. Where regulation thwarts free exchange, it eats in to our pursuit of happiness".

14th of October, 2004
Go for the jugular?

When you have tremendous conviction on a trade, you have to go for the jugular. It takes courage to be a pig.

- Paul Tudor Jones, quoted from Market Wizards

My bread and butter daytrades show a profit less than 60 dollars (and in between I lose). Probably not much impressive for most readers, but the point is to do this over and over again. That said, my biggest weakness is to make "big money" (1000 USD and above) on the really good setups. For example when there are pairs diverging big time without any news released. These are high probabilities trades with huge profit potential. (Occasionally these set ups turn out badly, but its all based on probabilities.) It requires a strong mentality to put on these trades - and by that I mean size. I tend to put on the same share size instead of for example quadropling the number of shares when the opportunity arises. I am still too risk averse and tend to trade too small on those rare occasions where there is a big edge. I have improved but I still have a long way to go. By betting huge on those occasions I can increase my profitability much much more. I think this is a great example of how hard the mental aspect is in trading. You will not realize it until you try it yourself.

25th of September, 2004
Poker and trading

I regularly play poker online (it is sometimes more exciting than boring trading hours during lunchtime). It is fun and I make money, even after the house rake, but just pocket money. I believe poker can teach an aspiring speculator some valuable lessons. There are important skills which is crucial for both games:

You learn a lot about yourself. The psychological aspect is very important in both games. To be a good poker player you need to understand yourself and rely on your strengths. You also need a good understanding about your opponents. Ideally you want to play your own game but you need to adapt to the other players and exploit their weaknesses. Believe me, there is a lot of players on the internet just waiting to get their money taken away. You can make money by playing very tight and conservative and avoiding the most obvious mistakes. You need alot of patience and have to fold a lot of hands which are not suited for calling or raising the bets. The biggest difference from trading is that the win rate is lower. I call or raise less than 20% of the time (I have a tracker program to keep track of my play - a very valuable tool). I get by just by playing very conservative. Sometimes I can play for one hour without winning a single hand, but that is part of the game. Patience is a virtue. I bought some books to get an idea of how to avoid the pitfalls. This was well worth the 50 dollar cost. As my experience is growing I can play more aggressive. 

Here are some similarities worth noting (from several poker sites):

I have written more on the similarities between trading and gambling earlier, which you can find here.

Comparing poker to trading: a conversation with eight-time World Series of Poker Champion, Phil Hellmuth.

20th of September, 2004
Let us alone!

France, in the seventeenth century, was an absolute monarchy. The king held total power over everyones life, work and property - and only the corruption of government official gave people an unofficial margin of freedom. Colbert, the chief financial officer of Louis XIV, was a strong beliver in "national prosperity" - and thus a beliver in strong regulations. He implemented countless rigid regulations on business, and this ended in poverty, misery and dismal business climate. Colbert was not an enemy of business, he just wanted control for the "best interest of the country" (heard that one before?). On one occasion he asked a group of manufacturers what he could do for the industry. A manufacturer called Legendre answered: Laizzes-nouz faire! (let us alone) Little did Legendre know that he invented the expression laizzes-faire capitalism. Apparently, he knew more and had more courage than businessmen nowdays. He knew that the only way a government can be of service to national prosperity is by keeping its hands off (except for enforcing rule of law based on individual rights). This is discussed in details in Ayn Rands Capitalism: The Unknown Ideal, of which excerpts of this story is found on page 141.   

16th of September, 2004
One-man hedge fund?

I have always considered my speculating as a one-man hedge fund. I trade for a living and I use much the same strategies as hedge funds. The strategies employed are very capital intensive, for example market neutral pairs trading, and my trading firm provides me with enormous gearing opportunities. The point is to employ several strategies to smooth the equity curve (and treat it like a business). 

Trading "professionally" is a great way to speculate. The cost of doing business is very low. Except from commissions and taxes, here are my yearly overheads:

- Internet connection: 600 USD

- Accountant: 225 USD

- Bank wires: 300 USD

- Interest (for carrying positions overnight): 2000 USD

- Exams etc (need to travel to US or London): 400 USD

- Infrastructure: 700 USD

- Total cost: 4225 USD

Add to this the initial cost of about 1000 USD for computers, monitors etc (which most people buy anyway). I have a home office and no rent to pay. With a capital contribution of about 40K USD this gives me a buying power intraday of about 1 million and 400K over night. IMO, when comparing this to the profit potential (which for good ones can run up to 300K - 1 mill USD), I think this is a great business for those willing to assume the risk. Obviously the opportunity cost for wasting your time is not included (if you dont make money).  

9th of September, 2004
Everyone is a speculator

"Everyone who makes a decision in the absence of complete information about the future consequences of all available opportunities is a speculator."

- Paul Heyne, The Economic Way of Thinking

Several newssites on the net today report that the recent surge in the oil price is because of the "speculators". No further explanation is given. I mean, who are the speculators? Can they manipulate the market/corner the oil market? Highly unlikely. As usual, the speculators is given the blame for the unwanted: the speculators are the root of all evil. I dont know why the word speculator has such a bad symbolism for socialists. Usually no documentation is required when blaming the "speculators", it is just something automatically worth blaming. 

IMO, we are all speculators. We speculate in love, marriage, retirement plans, business etc. Every business endeavour is a HUGE speculation - noone knows if there is gonna be any demand after your products. IMO, speculator is a positive word synonymous with risk-taking. We should be grateful we have risk takers. Derived from the latin word speculare, Paul Heyne describes very much the essence of the noun. Thus, everyone is a speculator:

  "Everyone is a speculator, not only in his financial life, but also in his career, his romance, and his retirement and family. It is in the entire decision-making practice."

- Victor Niederhoffer, The Education of a Speculator

I am very proud to call myself a speculator. For me this is a very positive word: I am a risk taker taking rational calculated bets, and I am certainly not exploiting other people. I just do my business and bring my money back home to Norway and pay my taxes, just like any other income generating export business.

4th of September, 2004
Some random thoughts about risk

Risk is a very negative word for many, but as a speculator you have to face financial risk (even ruin for some kamikaze traders) every day. But to make a living trading stocks you have to face risk in a bold way. IMO, the greatest opportunity for success goes to those who are not afraid of taking risks and at the same time managing risk in a proper way (and knowing EXCESSIVE risk may lead to total ruin). By that you have to analyze risk in accordance to potential reward. Success may come to those without fear, but many of the fearless have fallen by the wayside (and we never hear about them).

That also means not afraid of looking stupid. Remember that learning is inhibited by caution and experimentation. Children who are afraid will never learn. Children with totally risk-averse parents will struggle in an uncertain world.  Children are in general not afraid of looking stupid and they are therefore much more adaptive than adults. Just look at how easy they learn a new language. But you cannot be totally fearless but have to accept risk as a part of the equation for success.

IMO, risktakers are not looked upon very much in the Norwegian society. In our paternalistic country politicians and bureaucrats seem to have only one goal: to limit risk. In the not to distant future you will probably see a lot more rules and laws for proper conduct to limit risk. Is this the way we will face the future? No doubt the recent reduction of the risk tolerance bands in our society may inhibit much new learning on many fronts...What would the world look like if the Orwille brothers did not risk their health when trying to fly? Louis Pasteur had to fight religious dogmatism to create new and better drugs. There would be no improvement in living standards without risktakers. I, for one, have a tremendous amount of respect for those who are willing to go different paths than the traditional ones. You need courage to do that.

In order to succeed you have to face risk, no doubt about it. It takes perseverance and courage while enduring pain to keep moving forward towards success. Remember Napoleons famous saying:

Pessimists never won any battle. Forward!

31st of August, 2004
82% of the daytraders lose money

There is an interesting article in Business Week about daytraders from Taiwan.

They found that 82% of the traders lose money and conclude that this is a too low probability to be worth starting. Really? Is the success rate higher in any other business endeavour? If you start a pizza shop, is the success rate any higher? I have no proofs but I strongly believe it is not any better. On the contrary, there are several positives about daytrading, the most important being there is basically no fixed costs neither any sunk costs (but of course opportunity costs).

The top performing group made on average 251 USD, five times the annual per capita income. IMO, not bad considering this is a low cost country. 

18th of August, 2004
Real costs, hidden costs and opportunity costs

There is an interesting article in Capitalism Magazine this week about the costs of "free" services provided by the government.

This story illustrates the real costs with free services, but it also illustrates all the "hidden" costs which we cannot "see" because it is not a direct consequence. There is also the opportunity costs by doing something more expensive instead of producing cheaper and more rational.  Obviously, there is nothing free in this world, someone has to produce what whoever consumes, and this article illustrates perfectly what happens when we all have to pay taxes to pay "free" services provided by the government.

When we start giving free services there is no end for what the government is supposed to provide us. There is a noble thought to give us free healthcare and eduction, but by doing this by force (and no choice) it is inevitable that the costs increase. In the end the productive persons will be levied more taxes and the result is less incentives for production. The marginal tax rate for self emplyed is already close to 60% in the top bracket (from 140 000 USD), and at least 39% for any income for labor related income (capital gains are taxed flat at 28%). Add to this VAT and all other small taxes, and most people pay 60-70% of their total income in taxes. Please enlighten me what is "free" by this.

11th of August, 2004
Resources and creativity

The start of August has been terrible for those long stocks (I am long too, but only for my pension - an account I check once a year). S&P 500 is down about 5%. Still, I have had some of my best days ever solely daytrading and swingtrading pairs. This is one of the advantages with market neutral strategies, in general it does not matter if the market goes up or down. Pairs have become increasingly more efficient lately, but the game is simple: innovate or die! I have changed some of the pairs, trading them as a basket in different ways, and my holding period has increased substantially. I think my creativity has paid off. In the July 31st edition of The Economist there is an interesting article written by one of the former leaders of Mossad, Efraim Halevy. That article tought me a lot:

• Superior resources is no guarantee for success: "Yet Israel's most costly and fateful failure was its mistaken estimate of Egyptian and Syrian intentions on the eve of the Yom Kippur war in 1973 ... At the time Israel had it all : superior intelligence ... excellent human resources, high level dialogue with more than one Arab or Muslim leader ...but despite all of the above, we got it wrong." It is the same in the stock market. A huge pile of information will not help you if you miss the essential trigger. There is so much information in the stock market and it is easy to miss the essential elements.

• "Intelligence officers must be gifted with imagination and creativity, enabling them to peer behind the curtain of apparent reality." You need to think creatively to get an adge. The obvious is already implemented by the masses. You have to do something unique. Be a contrarian.

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Murer Thomas Klever