Wednesday, May 14, 2008

Why Successful Traders Are So Secretive

I set out to explain why successful traders are so secretive, by stepping through a logical argument of how a trader, if he publicizes his trading decisions, will almost certainly sooner rather than later undermine his own success. For many reading this, secrecy among successful traders may be a truism not requiring elaboration. However, for anyone wishing to hear the story, here it is:

Let's call our (hypothetical) young trader Mr. Bright. Assume that Mr. Bright either has an innate and remarkable ability to discern patterns in stock price movement or, alternatively, has developed a sophisticated computer program that can correctly forecast price action. Using his uncanny ability or his financial technology, Mr. Bright buys and sells stocks, typically taking positions for only a few hours, and achieves a highly favorable track record, soon vaulting him to multi-millionaire status.

One sunny morning, driven by apparent altruism camouflaging a layer of megalomania, Mr. Bright wakes up and decides to "share the wealth" with others by publishing his trading decisions via a website, announcing his buy and sell targets for particular stocks, and detailing his actual trades real-time.

Now, the media, always looking for a good story, is quick to pick up on young Mr. Bright's impressive track record and his openness and willingness to educate anyone who will listen. However, the public, including numerous "little guy" investors, who have only painful memories of losing too much money on rumors, hearsay and not-so-sound "advice" from "experts," is more skeptical. At first, only a few people take Mr. Bright and his predictions seriously enough to put their own hard-earned money at risk mimicking his trades. However, the success of the bold early adopters soon attracts a small army of followers, who are eager to partake of the "easy money," free for the taking simply by copying Mr. Bright's trading actions--buying when he buys and selling when he sells.

For quite a few months all is well. Mr. Bright's trades, along with those of his army of copycats, are profitable more often than not. He and his followers are on track to realize a 100% return during the first year. To the surprise of all skeptics, Mr. Bright is consistently putting money into the pockets of every little investor in his army and quickly becoming a popular hero.

By this time, as success tends to generate its own publicity, Mr. Bright and his uncanny forecasting system have caught the attention of professional investors (hedge funds, proprietary trading desks at investment banks and others). Since Mr. Bright makes a habit of publishing his trades real-time, he and his army of followers are an easy target for deeper-pocketed pros.

The strategizing in the pros' minds goes like this: Seeing that the stocks that Mr. Bright and his army buy rise so predictably, why not kick in a few dollars and join them on the way up? Then, instead of waiting for Mr. Bright's typical 10% rise before taking profits, how about front-running Mr. Bright and his army by selling out a little sooner, say at 9% profit, and proceeding to go short in significant size? As the stock starts to fall due to our short, Mr. Bright and his army will have little choice but to cut their profits and join us in selling, thereby pushing the stock down further and faster. As Mr. Bright and his army go into rapid retreat, the corresponding surge in trading volume and collapsing stock price will provide us pros with an opportunity to buy back shares to cover our short for a quick profit. As is easy to see, Mr. Bright and his army, with their well-publicized trades, will inevitably fall right into our trap!

In essence, Mr. Bright's system breaks down when more money is put into play. While the system initially succeeds in predicting price movement and generating profits for Mr. Bright and a small army of followers, the forecasting ability of the system vanishes when deeper-pocketed pros toss more money into the game. The very actions of Mr. Bright and his followers become a significant part of the overall market and, ultimately, the predictability of their behavior becomes a target of the pros.

Ironically, Mr. Bright's uncanny forecasting ability, when publicized to allow everyone free access to his trading decisions, itself becomes a predictable aspect of the market. In other words, the very act of revealing the predictions of a successful trading system predictably undermines its own ability to predict!

Moral of the story: Mr. Bright wasn't so bright after all.

Corollary: The brightest traders keep their systems secret.


Anonymous Anonymous said...

Dear Lloyd,
I have a personal message for u, can't find your contact info, so leaving a post here. my IM jennylewis035 or ICQ 362364815
Sunniest wishes, Jenny

6:26 AM, May 19, 2008  
Anonymous MyInvestorsPlace said...

Trading success comes from developing for yourself a good, well thought-out trading plan.

Andrew Abraham
MyInvestorsPlace - trading, value, investing, forex, stock, market, technical, analysis, systems

11:51 PM, November 07, 2008  
Anonymous Mike said...

Dear Lloyds,, is good. Not your mr bright as they don't publish trade ideas but instead show how chart analysis can really help determine the direction of the market that most risk adverse players are not likely to go against!

10:13 PM, March 29, 2009  
Anonymous Penny stock newsletter said...

I cannot see any advantage in being secret about your success what is their to be afraid of anyway. Success brings lots of fans' lots of fans brings lots more fans and so on

9:46 PM, October 24, 2011  

No big secrets just in their heads.

3:10 PM, December 14, 2014  

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