TRADING FLOOR SECRETS: Trading Insanity
May 22, 2007
Albert Einstein, the guy who makes awesome bagels, once said, “The definition of insanity is doing the same thing over and over again and expecting a different result.” Perhaps that is why he only married one cousin, but did wed twice? I suppose the jury is out on his sanity.
Often I am asked by students why they are not advancing even though they have been to a 2-day class 15 times. On first examination one would think attending a class, reading a text, or asking a question 15 times would be a certain method of perfecting something. Practice makes perfect after all, isn''t that correct? But I suppose some of you reading this may have guessed where this is going.
Trading is no different than surgery of plumbing in some regards. A competent physician or plumber usually has a vast array of tools at his disposal and nothing is more frustrating when the correct tool is not on hand. No one is happy when a doctor closes you up telling you he has to go back in next week because they found something new (code for not having the correct clamp to do the job then) or when the plumber tracks dirt out of your house telling you that he has to go back to the shop and get another wrench. Every trading strategy is like a different tool in your tool box, and as the markets are always changing so a vast array of tools is needed to trade various market conditions.
Buying a straddle when volatility is at record high levels may feel like the correct thing to do when the market is gyrating incessantly, but anyone who has owned an option during a collapse in volatility knows how frustrating this can be. Collars are awesome strategies for pretty much any market condition, but get a very slow declining market that lasts months and you will see the same frustration. Perhaps you are a fan of time spreads? Trading time spreads when volatility is exceptionally low does not produce the yields like when volatility is higher.
How successful and confident would you be of your plumber if he showed up at your door with only a hammer? He isn''t really even a plumber unless he has a tool belt with 70 items dangling and weighing so much as it pulls his pants half way down to his knees. He tries to explain to you how good of a hammer it is (“This thing opens jars of mayonnaise, repairs leaks, opens clogs bends metal pipe and disciplines the kids!”). You get the point, and trading is very similar.
Recently I asked my plumber, after seeing his bill and the $125 per hour labor fee, how long he studied to be a plumber, especially when I realized my general practitioner recently spent an hour with me explaining why it hurt when I urinated and only charged $100. Without all those fancy anatomy, organic chemistry and pharmaceutical classes he had to pay for my friendly plumber who appeared to be storing a Chia Pet in the back of his pants like a concealed weapon stated it took 5 years and $25,000. I had no idea loose fitting jeans were so hard to find.
As it turns out, being a plumber requires a little more than I initially had thought. Doug mentioned that he, not being a fan of formal education, left high school and became an apprentice. To his surprise and dismay he found himself again in a classroom having to learn about various plumbing things (perhaps where to shop for jeans?). Plumber''s school cost him $9,000 – jeans not included, but he did leave with a tool belt! He then had to spend pretty much all of his paltry “apprentice income” on tools that cost him about $16,000.
Sure, many times he showed up at a home it was the same-old, same-old. Peter Achs visited his home and they had a clogged toilet that Extra Strength Draino laughed and scoffed at. From time to time a wedding ring would accidentally get flushed, usually in a mad scramble to get it back on before a spouse returned from a business trip. Once a month, however, something new would come up – no pun intended, and Doug would be left scratching his head and learning something new. Does this sound similar to your trading experiences?
Since doing the same thing over and over again makes for a day of nothing new learned—though it does make a successful marriage—a good trader is best served by stocking his/her tool box up for days when the tungsten carbide transistor ignition switch is needed. The market has enjoyed a strong rally recently. Even I am amazed at the speed and magnitude of this market, though I have been proclaiming we are going higher for some time. Rest assured though of one thing – this market will eventually change once again. I am not declaring a top in the market quite yet. Those who have ever read any of my articles know that I love to ride a trend as much as the next guy, but the markets are always changing.
Ever trade a major correction? If not, this may be a good time to brush up on it. There are a lot of cracks in the foundation of our economy. We have gasoline approaching $4 a gallon. Though unemployment is at low levels statistically, many of the so-called jobs being created are more customer service than middle and upper management. Interest rates have been rising and the savings rate among Americans is actually a negative number. Home sales are declining and foreclosures are so high that many banks are restricting new underwriting to all but the best of risks (basically people who don''t need the loan in the first place).
Some believe that if it were not for “W” dumping literally more than $1 trillion dollars into his hunt for Saddam (“the owner of chemical, nuclear and biological weapons”) our economy would really be hurting. The good news, as I don''t want to sound too gloomy, is that I believe Halliburtin''s earnings should be close to the same $1 trillion figure, which will help Dick Cheney stay off of the food stamp program with the rest of us, so there will be some savings.
The point? Oh yeah, I knew I was pontificating for a reason. One day all this good news could turn bad and the markets will adjust. Knowing in advance what to do and trade will very likely mean the difference between success and failure. With only a reverse mombo-combo trade in your tool box you will not be ideally suited to take advantage of any new opportunities.
Trust me, this is NOT a sales pitch to go out and buy something. I am a firm believer in keeping costs at a minimum, but even a plumber has to weigh the cost of a ratchet wrench against business or time lost by not having one. Trading is no different, other than it probably takes the same amount of time to be great at trading as it does plumbing, but your potential for profit and income is much greater. One does not see many plumbers driving Ferraries, but one day while in Chicago go look inside the garage traders use. You don''t see many 1978 Chevy pickups, either.
In the end you are the master of your own universe. If you want to live in a world of insanity where there are no surprises every day and your income remains a constant, you can keep doing the same thing over and over again. Just do not expect any change or you will fit the DSM IV definition of insanity and you will have change. You will have a change into a nice extra-long sleeved jacket and a room more comfortably suited to doing gymnastics. Change is inevitable, so why not attempt to have some impact on what that change will be like? Even if you go to the same 2-day seminar or read the same magazine every week, you will see change. If nothing else, at least the instructor will be different, but we all teach about the same material.
Speaking of bagel boy... Do you want to know what my definition of insanity is? I define insanity as trying to sleep comfortably at night HOPING that the value of my home will continue to outpace inflation and a real estate crash doesn''t wipe out my savings so I can retire. Insanity is hoping that my 100 shares of SUNW split 90 times at close at $300 so I can retire. Insanity is trying to figure out how to pay for rent, food, clothing and medicine on a social security check alone (if that program has not been looted dry by politicians by the time I am eligible). Insanity is going to the same class every month and thinking I am making forward progress on my trading. But then again, what do I know? I have been married twice.
Scott “See You at Oasis” Kramer
Staff Writer and Trading Strategist
Optionetics.com ~ Your Options Education Site
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