The Difference Between a Speculator and a Gambler

The Difference Between a

 Speculator and a Gambler

 

A speculator strives to be professional, honorable, intellectual, serious, analytical, calm, selective and focused.

Whereas the gambler is corrupt, distracted, moody, impulsive, excitable, desperate and superstitious.

It’s not the market that defines whether a participant is a Gambler or a Speculator, it’s his behavior.

Cold Truth About Emotional Investing

WSJ: What do you mean by emotional finance?

PROF. TUCKETT: What we try to do in emotional finance is start with the fact that the future is unknowable. The key thing about uncertainty is that it inevitably generates feelings. Because it matters to you, because your money’s on the line, so to speak, you’re bound to feel emotionally engaged.

WSJ: Some people think pros are more rational than individual investors.

PROF. TAFFLER: Although most of the fund managers we interviewed saw part of their particular competitive advantage as remaining, as they described it, unemotional or rational, in practice they were just as emotional as anyone else when they started to talk about the stocks they had invested in. There were lots of examples where they referred to them almost as if they were lovers.

If you’re entering into an emotional relationship with a stock, an asset or a company that can let you down, this leads to anxiety, which is often not consciously acknowledged. But it’s there, bubbling beneath the surface.

WSJ: The fund managers told stories about their investments. What was the role you found that storytelling played in their decision making?

PROF. TUCKETT: They have to feel conviction. With a narrative you can join up different facts with emotions, and that creates a sense of conviction, and that is absolutely essential for action. So we aren’t saying “Oh, they’re only storytellers.” We’re saying you need to tell a story.

PROF. TAFFLER: One of the fund managers talked about investing in a fast-food company, how he visited the restaurants and looked at what people were ordering. The story was about seeing something nobody else could see, and that feeling gave him the confidence to invest.

WSJ: Could you talk about what investors expect from fund managers and what effect that has on the fund managers?

PROF. TAFFLER: A very important insight in emotional finance is the concept of the fantastic object. It’s like Aladdin’s lamp, which you polish and can have anything you want. In unconscious terms this is ultimately what we are all looking for.

The whole environment is problematic, because fund managers are expected to outperform on a continuous basis, in competition with other equally able and well-resourced managers, and of course not everyone can do this. So actually the fund managers are required to be fantastic objects, to earn continuous superior returns at low risk. This is, of course, only possible in fantasy, not reality.

To be able to do this, fund managers have to be able to believe they can find fantastic objects themselves, stocks with which they can have special relationships and which are going to outperform with minimal risk.

WSJ: With individual investors, I suppose it’s about managing the uncertainty of putting their money into the markets—it helps if they’ve got this idea of the star manager who can handle it all for them.

PROF. TAFFLER: Yes. In emotional-finance terms an important part of the fund manager’s job is to defeat uncertainty. In a sense we’ve got an institutional structure which seeks to deny that ultimately we’re all working in an environment that is inherently unpredictable.

WSJ: What can individual investors learn from your research?

PROF. TAFFLER: I’ve done separate research on individual investors, and of course they have all these same feelings writ large. You need to recognize that cognition and emotion go together; you can’t have one without the other. If you were coldly unemotional, which is of course not possible, then you wouldn’t actually be able to generate the conviction necessary to take the risk of investing.

Five Qualities For Successful Trader

 

1. Capacity for Prudent Risk-taking.The young successful trader is not afraid to go after markets aggressively when the opportunity presents itself.
2. Capacity for Rule Governance. The young successful trader has the self-control to follow rules in the heat of battle, such as rules of position sizing and risk management.
3. Capacity for Sustained Effort.The trader uses productive time to do research, preparation, work on himself, outside of market hours.
4. Capacity for Emotional Resilience. All young traders will lose money early in their development and experience multiple frustrations. The successful ones will not lose self-confidence and motivation in the face of loss and frustrations.
5. Capacity for Sound reasoning. The successful young trader exhibits an ability to synthesize data and generate market and trading scenarios.

False Beliefs About Trading the Markets

1) What goes up must come down and vice versa.

That’s Newton’s law, not the law of trading. And even if the market does eventully self-correct, you have no idea when it will happen. In short, there’s no point blowing up your account fighthing the tape.

2) You have to be smart to make money.

No, what you have to be is disciplined. If you want to be smart, write a book or teach at a university. If you want to make money, listen to what the market is telling you and trade to make money — not to be “right.”

3) Making money is hard.

Nope. Sorry. Making money is actually easy. Statistically, you’re going to do it about half the time. Keeping it, now that’s the hard part.

4) I have to have a high winning percentage to be profitable.

Not true. How often you are right on a trade is only half of the equation. The other half is how much do you make when you’re right and how much you lose when you’re wrong. You can remember that with this formula:

Probability (odds of it going up or down) x Magnitude (how much it goes up or down) = Profitability

5) To be successful, I have to trade without emotions.

That is both wrong and impossible. You are human so you have emotions. Emotions can be a powerful motivator to your trading.

When you feel angry or scared in trading, take that emotion and translate it into something more productive. For example, if you’re feeling angry because you just got run over by the market, view that anger as a reason to be more focused and disciplined in your entry and exit levels on the next trade.

The First Requirement for Success

“Sun Tzu said if you sit by the river long enough, you’ll see the bodies of your enemies float by. The key is “long enough.” If you live long enough, you have to be the survivor. When I was a kid, we didn’t have the video games you have today, so we used to listen to comedy records. One of the greatest ones was Mel Brooks doing the 2000 year old man. Carl Reiner says to him, “how did you get to be the world’s oldest man?” And he says, “Simple. Don’t die.” How do you get to be the world’s oldest investor? The answer is don’t crap out.

“So if you look at distressed debt where we started in 1988, I could tell you who our number one competitor was in every year through 1995 and not one is a main competitor today. And it’s not because of what we did; all we did is perform consistently. They crapped out. It sounds simplistic to say, but the first requirement for success is survival…”

- Howard Marks

What steps do you take to ensure survival as a trader?

Do you think about markets from the perspective of wanting to be around for a very long time? How do you proactively make that happen?

Blowing up, bleeding to death, and grinding out are different ways to “die.” Imagine three failed traders, one for each of the ways. What might the postmortems look like?

Nassim Taleb’s Six Rules For Succeeding In Life

 

Success in all endeavors is requires absence of specific qualities.

1) To succeed in crime requires absence of empathy,

2) To succeed in banking you need absense of shame at hiding risks,

3) To succeed in school requires absence of common sense,

4) To succeed in economics requires absence of understanding of probability, risk, or 2nd order effects and about anything,

5) To succeed in journalism requires inability to think about matters that have an infinitesimal small chance of being relevant next January,

…6) But to succeed in life requires a total inability to do anything that makes you uncomfortable when you look at yourself in the mirror.

30 Rules for Traders

• Buying a weak stock is like betting on a slow horse. It is retarded.
• Stocks are only cheap if they are going higher after you buy them.
• Never trust a person more than the market. People lie, the market does not.
• Controlling losers is a must; let your winners run out of control.
• Simplicity in trading demonstrates wisdom. Complexity is the sign of inexperience.
• Have loyalty to your family, your dog, your team. Have no loyalty to your stocks.
• Emotional traders want to give the disciplined their money.
• Trends have counter trends to shake the weak hands out of the market.
• The market is usually efficient and can not be beat. Exploit inefficiencies.
• To beat the market, you must have an edge.
• Being wrong is a necessary part of trading profitably. Admit when you are wrong.
• If you do what everyone is doing you will be average, so goes the definition.
• Information is only valuable if no one knows about it.
• Lower your risk till you sleep like a baby.
• There is always a reason why stocks go up or down, we usually only learn the reason when it is too late.
• Trades that make a lot of intellectual sense are likely to be losers.
• You do not have to be right more than you are wrong to make money in the market.
• Don’t worry about the trades that you miss, there will always be another.
• Fear is more powerful than greed and so down trends are sharper than up trends.
• Analyze the people, not the stock.
• Trading is a dictators game; you can not trade by committee.
• The best traders are the ones who do not care about the money.
• Do not think you are smarter than the market, you are not.
• For most traders, profits are short term loans from the market.
• The stock market can not be predicted, we can only play the probabilities.
• The farther price is from a linear trend, the more likely it is to correct.
• Learn from your losses, you paid for them.
• The market is cruel, it gives the test first and the lesson afterward.
• Trading is simple but it is not easy.
• The easiest time to make money is when there is a trend.

Think Less & Keep It Simple

Every once in awhile I read something from another trader who I respect that I really wish I wrote myself. Here’s one such example:

“One of the most difficult things to get investors and traders to understand is that no matter how much they investigate an investment, they will probably do better if they did less. This is certainly counter-intuitive, but the way that our brains function almost guarantees that this will happen. This kind of failure also happens to those investors frequently regarded as the smartest. In essence, the more information that investors have, the more opportunity that they have to choose the misinformation that suits their emotional purposes.

Speculation is observation, pure and experiential. Thinking isn’t necessary and often just gets in the way. Yet everywhere we turn, we read and hear opinion after opinion and explanation on top of explanation which claim to connect the dots between economic cause and market effect. Most of the marketplace is long on rationale and explanation and short on methods.

A series of experiments to examine the mental processes of doctors who were diagnosing illnesses found little relationship between the thoroughness of data collection and accuracy of the resulting diagnosis. Another study was done with psychologists and patient information and diagnosis. Again, increasing knowledge yielded no better results but did significantly increase confidence, something which the smartest among us are most prone to have in abundance. Unfortunately, in the markets, only the humble survive.

The inference is clear and important. Experienced analysts have an imperfect understanding of what information they actually use in making judgments. They are unaware of the extent to which their judgments are determined by just a few dominant factors, rather than by the systematic integration of all of their available information. Analysts use much less available information than they think they do.