What I Learned Losing $1,000,000

What I Learned Listening To

by Jim Paul and Brendan Moynihan

A better bets on the outcome of a single event.

A gambler derives pleasure from a given activity or event.

A speculator believes he can “see” the outcome of a particular position, and therefore is seeking money and not pleasure.

A trader tries to earn money by exploiting the bid-ask spread (short time horizon).

An investor seeks money and has a longer time horizon.

Investor > Trader > Speculator > Gambler > Better

There are two types of losses: internal and external. Internal losses are subjective, external losses are objective. When a loss becomes subjective, your ego gets involved.

Games can take the form of either discrete events (e.g. the roulette wheel, blackjack, sporting event) or a continuous system (e.g. the stock market).

Market losses are subjective and open-ended, and therefore get internalized. This leads to people going through the five stages of grief: denial, anger, bargaining, depression, and acceptance (and hope).

15 Lessons Learned

1. The potential of initial and temporary success only exists in trading. You can’t just call yourself a brain surgeon and get lucky while messing around in someone’s head. And just stepping on stage and trying to give a violin concert if you have never touched a violin before won’t end too well either.

2. Right, wrong, win and lose are inappropriate terms for describing the participation in the markets. In 20/20 hindsight, decisions might be good or bad but not right or wrong. With regards to the markets, only expressed opinions can be right or wrong. Market positions are either profitable or unprofitable.

3. There are as many ways to make money in the markets as there are participants. But there are only very few ways to lose.

4. A light-bulb manufacturer understands that 2 out of 10 bulbs will not work; a fruit seller knows that some apples will be foul. Those losses are expected. In trading, we don’t expect to lose when we enter a trade. Unexpected losses are hard to deal with. Acknowledging that losses are part of the game and accepting the losses are two very different things.

5. In trading, losses are treated as mistakes and from early on, we have been taught that mistakes are bad and have to be avoided.

6. If you know exactly how much you are going to win, but don’t know how much you can lose, you are denying losses.

7. Trading is an activity without a beginning and an end. In an activity without an end, you can always make decisions and change your decisions based on the current situation. A football game, a roulette spin or blackjack have defined beginnings and endings; after the game is over, you can’t change anything. You have to accept the outcome. It’s not open for interpretation; you (your team) have lost or won. In trading, the “game” (activity) never ends and your trade (potentially) never ends. Because your trade doesn’t end, your loss is never final and it could always turn around.

8. Rules are hard and fast. Tools have some flexibility. Fools neither have rules nor tools.

9. A scenario might have been an acceptable trade based on someone else’s rules. Profitable opportunities will occur that you won’t participate in. Your rules will only enable you to engage in some of the millions of opportunities.

10. You can’t calculate the probability of having a winner. You can only calculate how much you are going to lose. All you can do is manage your losses and not predict your profits.

11. People usually pick the exit point as a function of their entry point and it’s usually some arbitrary Dollar amount.

12. People rationalize a trade idea by expressing the trade in terms of the money odd’s fallacy – “it’s a three to one reward-risk ratio! I’ll risk $500 to make $1500”. The reward-risk ratio gives no information about the likelihood of winning a trade.

13. People who ask, “Why is the market up or down?” don’t want to know why. They only want to hear the reasons that justify their losing position.

14. The last moment of objectivity for the roulette player is the moment before he places his bet and the wheels starts spinning. After that, he can’t do anything anymore to lose more money. For the market participant, the last moment of objectivity is the moment before he places his trade. But after that, he can still do a lot to lose more money. That’s why all your decisions and plans have to be made pre-trade.

15. Controls should precede strategy. You cannot predict your profits, but you can manage your losses. Pick your exit loss criterion before you determine your entrance price.