Trading Principles: Trading from Home

Basic Trading Principles

1.????Understand the enemy perspective. This is a classic Marine Corps adage but it’s critical in trading. Every trade is a heads-up competition. Sometimes when I would ask my traders to explain the counter-argument, they’d have a decent Investment Manager-type understanding of the other side. That’s not enough. To trade your biggest, best positions well, you must have a deep understanding of the opponent’s perspective.

2.????Egoless, Dynamic Mind. The best traders have fluid minds that mimic their market. In high volatility markets, they change their minds. A lot. Good commodity traders are right 55-60% of the time. The best traders make money by adjusting trades according to price action or new information. An egoless trader harnesses the market, or limits damage, but rarely fights it. No one’s bigger than the market.

a.????The goal is clear-eyed view of risk-reward. As it changes, so must the position.

·??????I tended to wait for 1:3 trades, which requires patience.

b.????Dynamism allows you to trade when you want to, not when you’re forced to.

c.????Stubbornness leads traders to be forced out by price action. They exit at the point of maximum pain. On the other side, a great trader is drinking their milkshake, often entering a trade that has incredible risk-reward.

3.????Instincts. Traders develop key instincts. The most powerful ones emerge when the market is moving more than two standard deviations. When you’re losing lots of money you’ll have one of two feelings: Either a) a nervous urge to walk into your boss’s office (at home, this might be a spouse!) and ask for more VaR (risk capital), because the trade is even better and you can explain the downdraft; or b) a sick feeling where if you could rewind to market a few hours or even a few minutes, you’d choose to be out of the entire trade. When you have the latter instinct, you must exit immediately. There are still others out there on the wrong side of the trade. You need to beat them to the exit. You also need to reboot your mind and emotionally digest the loss so you can get back in the fight. This takes time for some. The sooner the better.

a.????On the flip side, never let beaten opponents out of the trade until the risk-reward starts to flatten. Take profits when the market tells you too, not because you need to capture PNL. Do not cede momentum—it is a rare thing, and can make your entire year.

4.????Do not overtrade. A commodity futures trader makes 2-3 strategic decisions each year, a dozen core monthly adjustments, and hundreds of tactical decisions each week. The natural tendency to hunt for value. But the farther a trader roams from the core market where he/she has developed pattern recognition and a trading philosophy, the lower the Sharpe ratio. Traders must actively limit the number of distinct positions or mediocre trades will accumulate like a buffet plate. The best risk systems cannot distill diverse positions for the human brain. Cull the herd often. Resist temptation in periods of low volatility to staple dozens of different trades into an ‘efficient frontier.’ It’s not.

5.????Use stops. When trading from home, stops emplace critical boundaries for the mind, if not the trade. You need not use them purely as exits/entries. As tripwires, they are effective tools to constantly stress-test and right size distinct trades. In an era of hyper-low commissions, traders must be constantly adjusting their stacks, like adjusting the sails.

6.????Analysis. Trading is addicting, attracting a lot of amateurs. Over time, they provide the ante for the professionals to play with . The difference is often experience and analysis. Professionals think a lot about specific markets and methods. The best of them further analyze all their losing trades, converting these losses into valuable experience they cash in over time.

7.????Experience-Get Rich Slow. When trading a market dominated by professionals it’s like sitting down at a pro poker table. You will win a hand. You might even win the day. But over time, the professionals take your money. Why? They combine their analysis of dynamic odds with years of pattern recognition and decision-making under pressure. If a fighter pilot survives the first few enemy encounters, the odds of survival soar. The amateur trader who does the work while surviving for a few years swiftly becomes a professional.

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Postscript from an Equities/Crypto Amateur

Crypto. This is a difficult market to trade. After getting crushed trying to dynamically trade BRR futures in 2019, I reverted to a basic asset allocation model instead of a trading method. It’s served me well. When my crypto holdings exceed 10% of the family’s net worth, I sell with my eyes closed to the chart. When they (I hold 7 different coins) drop below 5%, I buy.

Shorting Single Name Equities. Don’t do it.

?Equity Options. There’s tremendous value in single name equity options but it’s difficult for us amateurs to capture. The bid-offer is massive, the markets are illiquid, and machines dominate. However, you can get lucky if you’re patient. I don’t know if it’s covered call (and other systematic) strategies or impulsive moves by other civilian traders who don’t understand skew, 2nd order greeks, etc., but low delta equity options are occasionally very cheap. Still, if you have conviction, it’s best to buy the underlying security. Options are about probability pathing, not point-to-point moves or even business school hockey sticks.

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