Monday, February 24, 2014

Reminiscences of a Stock Operator

I was somewhat skeptical about a recommendation to read a century-old book about stock trading, but Reminiscences of a Stock Operator (annotated edition) by journalist Edwin Lefèvre is an entertaining and illuminating historical novel. The book is written in the first person about character Larry Livingston and is based mainly on the life of the great trader Jesse Livermore. The version of the book I read was greatly enhanced by journalist Jon D. Markman‘s extensive annotations explaining many terms unfamiliar today and giving many back stories to put Lefèvre’s writing into context.

The main character makes a fortune and then loses it again several times over, each time gaining new insights into stock trading. The limited regulation of the time permitted extensive leverage and many attempts to corner markets. Common themes are manipulation of the investing public and back-stabbing among big traders. No doubt the many trading lessons woven into this story would have some usefulness to traders today.

Here are a few parts of the book that struck me as particularly interesting:

Livingston describes a complete hierarchy of chumps: those who bet blindly, those who buy on dips and memorize some simple rules, careful traders who listen to too many experts, and semi-pros who take profits too quickly in a bull market. I could definitely see my former self among the extensive description of these chumps.

“It was never my thinking that made the big money for me. It was my sitting. ... I’ve known many men who were right at exactly the right time [but traded out of their positions too soon].”

The average man desires “to be told specifically which stock to buy or sell. He wants to get something for nothing. He does not wish to work. He doesn’t even wish to have to think.”

A funny line about telling tall tales: James J. Hill “was worth from fifty million to five hundred million, the estimate depending upon the state of the speaker’s liver.”

“There was practically no opportunity for me to make big money [from 1911 to 1914]. The market flattened out.” For traders to be successful, they need action (volatility) and victims (bad traders).

“Lefèvre’s implicit message is: Just say no to all tips ... No doubt he would be appalled by financial cable television.” Seeking tips is “not so much greed made blind by eagerness as it is hope bandaged by the unwillingness to do any thinking.”

Even a century ago regulations were stricter on stock manipulation than they had been years before: “Most of the tricks, devices and expedients of bygone days are obsolete and futile; or illegal and impracticable.”

A comment related to modern day behavioural finance: “there is profit in studying human factors—the ease with which human beings believe what it pleases them to believe.” Attributed to Thomas F. Woodlock: “The principles of successful stock speculation are based on the supposition that people will continue in the future to make the mistakes that they have made in the past.” This is the reason why modern-day active investors want index investors to get into the active fray and make mistakes.

In Livermore’s later years “outside financiers pooled their shares in a company that was not moving fast enough for their liking and hired pros like Livermore to sell them to the public at higher prices.” Stock manipulation seems mainly to be an exercise in creating a pattern of trades that moves prices and draws the public into the wrong side of trades at favourable prices for the manipulators. The public are essentially chumps in this exercise. “The big money in booms is always made first by the public—on paper. And it remains on paper.”

It’s hard to say how helpful the lessons of this book are to traders today. No doubt they need to know at least as much as this book teaches, but I suspect that it takes far more skill and automated tools to make money trading today than was required a century ago. This book describes a romantic time when it was possible for a lone trader to make short-term money on the mistakes of other traders. Even if there is no useful lesson on how to get rich, this story is worth the read.

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