Tuesday, December 12, 2006
UP AND DOWN WALL STREET DAILY |
By RANDALL W. FORSYTH
Trading Rules: How Not to Lose Your Head and Your Money
"BASEBALL IS 90% MENTAL, the other half is physical," Yogi Berra is famously quoted as having said. That
could apply almost as well as to trading, where investors analyze announcements and crunch numbers to a
fare thee well, and still too often wind up losing.
Dennis Gartman, the eponymous author of the Gartman Letter, a daily newsletter covering the global markets,
says he's learned that from hard experience going back to when he began trading in the cotton futures pits in
the 1970s. One of those episodes involved taking the other side of a trade from an upstart called Pimco in the
bond pits early 1980s, and losing years of trading profits in a matter of minutes, he now cheerfully relates.
To survive in the real world outside the ivory tower, Gartman has formulated what he calls his "Not-So-Simple
Rules of Trading," some of which go contrary to some of the widely accepted shibboleths of the market.
Fundamentals count in the long run, but in the short run markets are anything but rational and efficient, as
academics would assert.
The ladies' dress store owner understands markets better than most academics, Gartman asserts. If he is
stocking red dresses and green dresses, and the red dresses are selling and the green ones aren't, what does
he do? He'll market up the red ones and buy more, and mark down the green ones and get rid of them.
Traders too often will do the opposite, he says.
"If you buy something and it goes up, the market is telling you that you're right," Gartman says.
From these experiences, herewith Dennis Gartman's Not-So-Simple Rules of Trading:
"1. Never, ever, ever, under any circumstance, add to a losing position... not ever, not never! Adding to losing
positions is trading's carcinogen; It is trading's driving-while-intoxicated. It will lead to ruin. Count on it!
"2. Trade like a wizened mercenary soldier: We must fight on the winning side, not on the side we may believe
to be correct economically.
"3. Mental capital trumps real capital: Capital comes in two types; mental and real, and the former is far more
valuable than the latter. Holding losing positions costs measurable real capital, but it costs immeasurable
mental capital.
"4. This is not a business of buying low and selling high; it is, however, a business of buying high and selling
higher. Strength tends to beget strength, and weakness, weakness.
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"5. In bull markets one can only be long or neutral, and in bear markets, one can only be short or neutral. This
may seem self-evident; few understand it however, and fewer still embrace it.
"6. 'Markets can remain illogical far longer than you or I can remain solvent.' These are Keynes' words and
illogic does often reign, despite what the academics would have us believe.
"7. Buy markets that show the greatest strength; sell markets that show the greatest weakness: Metaphorically,
when bearish we need to throw rocks into the wettest paper sacks, for they break most easily. When bullish we
need to sail the strongest winds, for they carry the farthest.
"8. Think like a fundamentalist; trade like a simple technician: The fundamentals may drive a market and we
need to understand them, but if the chart is not bullish, why be bullish? Be bullish when the technicals and
fundamentals, as you understand, them run in tandem.
"9. Trading runs in cycles; some good; most bad: Trade large and aggressively when trading well; trade small
and ever smaller when trading poorly. In 'good times,' even errors turn to profits; in 'bad times,' the most wellresearched trade will go awry. This is the nature of trading; accept it and move on.
"10. Keep Your technical systems simple: Complicated systems breed confusion; simplicity breeds elegance.
The great traders we've known have the simplest methods of trading. There is a correlation here!
"11: In trading/investing, an understanding of mass psychology is often more important than an understanding
of economics: Simply put, 'When they are cryin', you should be buyin'! and when they are yellin', you should be
sellin'!'
"12. Bear-market corrections are more violent and far swifter than bull-market corrections: Why they are is still
a mystery to us, but they are; we accept it as fact and we move on.
"13. There is never just one cockroach: The lesson of bad news on most stocks is that more shall
follow...usually hard upon and always with detrimental effect upon price, until such time as panic prevails and
the weakest hands finally exit their positions.
"14. Be patient with winning trades; be enormously impatient with losing trades: The older we get, the more
small losses we take each year...and our profits grow accordingly.
"15. Do more of that which is working and less of that which is not: This works in life as well as trading. Do the
things that have been proven of merit. Add to winning trades; cut back, or eliminate losing ones. If there is a
'secret' to trading (and of life), this is it.
"16. All rules are meant to be broken...but only very, very infrequently. Genius comes in knowing how truly
infrequently one can do so and still prosper."
To which Yogi would add, "In theory, there is no difference between theory and practice. In practice, there is."
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