Investing lessons: When to book profit and when to sit tight? Learn it from the Great Bear of Wall Street

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Regarded as one of the greatest investors of all times, Jesse Livermore’s story is one of the most fascinating ones ever told on Wall Street.

Born in 1877, Livermore began his investment journey when the markets were thinly traded compared with what they are today. He traded on his own, using his own money and didn’t use anyone else’s capital.

Livermore became one of the few investing greats who withstood multiple recessions and the Great Depression. Through the changing times, his investment rules and styles stood out as the best, and are still studied by the investors of modern times all over the world.

Recommended highly as a must-read for all traders,
Reminiscences of a Stock Operator (1923) is a book on Livermore’s life and has won many accolades from the investing great of different times.

Livermore’s own book
How to Trade in Stocks (1940) is still referred to by investors of modern times as a must read. At his peak in 1929, Jesse Livermore’s net worth was more than $100 million, a value unheard of in those times.

When Livermore was 15, he started to work in Paine Webber’s Boston brokerage office, where he used to post the stock and commodity prices on the board.

Often referred to as ‘Boy Wonder’, ‘Boy Plunger’, and the ‘Great Bear of Wall Street’, Livermore started his trading journey after studying the price movements of the stocks on the ticker boards and began trading on their fluctuations.

Later in his 20s, he moved to New York City to speculate on the stock and commodities markets full time.

During his 40 years of trading experience, Livermore developed an incredible skill for speculation and is said to have created massive fortunes trading on volatility and chasing trends.

He came up with a set of trading principles from his wealth of investing experience, which some investors still use as their guide to navigate complex market trends.

1. Nothing new ever occurs in the business of speculation or investing in securities and commodities

Livermore said crashes and bubbles are just an inevitable feature of the stock market. It is evident from history that the same market moves and patterns occur in cycles and the same speculative bubbles and market crashes happen from time to time.

He felt investors act out the same behaviours day in and day out and it is possible for investors to try to learn and adapt to the market swings.

“A lesson I learned early is that there is nothing new on Wall Street. There can’t be, because speculation is as old as the hills. Whatever happens in the stock market today has happened before and will happen again. I’ve never forgotten that,” he said in his book
How to Trade in Stocks.

2. Price moves along the line of least resistance
Livermore said this was the most important rule to learn for any trader, because it really simplified the entire trading process. He said investors should avoid over-thinking about the market, as it goes where it wants to go and the best bet for anyone should be to try and go with it.

He said trading a security was always a battle between the bulls and the bears, and the goes up when it finds support, and goes down when it faces resistance. This constant movement that takes place all the time in the market is because the price takes the path of least resistance.

“You watch the market — that is, the course of prices, as recorded by the tape with one object — to determine the direction. Prices, we know, will move either up or down as per the resistance they encounter. For purposes of easy explanation, we will say prices, like everything else, move along the line of least resistance. They will do whatever comes easiest. Therefore, they will go up if there is less resistance to an advance than to a decline; and vice versa,” he said.

3. Don’t try to catch all the fluctuations
Livermore said investors need to always trade according to the prevailing trend, as it is very difficult to try and catch all the fluctuations. If anyone tries to do that, s/he may suffer heavy losses.

He felt many traders tried to pick all the tops and bottoms and tried to buy into all of the dips and sell the tops, but only ended up spending more and more on commissions and trading costs. “I think it was a long step forward in my trading education when I realised at last that when old Mr. Partridge kept on telling other customers, ‘Well, you know this is a bull market!’ he really meant to tell them that the big money was not in the individual fluctuations, but in the main movements, that is, not in reading the tape but in sizing up the entire market and its trend,” he said.

4. You don’t have to trade
Livermore said consistent returns cannot be generated by trading every day, and investors are bound to have days when they incur losses so they shouldn’t feel too bad, because there will always be ups and downs in trading.

“Those who can both be right and sit tight are uncommon. I found it one of the hardest things to learn. But it is only after a stock operator has firmly grasped this that he can make big money,” he said.

According to Livermore, if an investor has got a winning bet in a portfolio, the best decision is often to do absolutely nothing and sit tight as long as the stock is getting good returns. There is no need to be in a hurry to book profit.

“After spending many years on Wall Street and after making and losing millions of dollars, I want to tell you this: It never was my thinking that made the big money for me. It was always my sitting. Got that? My sitting tight!,” he said.

5 Good trades move into profit quickly
Livermore said the best trades often moved straight into profit, because investors are often buying into strength or selling into weakness, as they are often trading right after the point of least resistance and are likely going to see that momentum continue for a period. “Experience has proved to me that real money made in speculating has been in commitments in a stock or commodity showing a profit right from the start,” he said.

6 Practice makes it perfect

As traders gain more and more experience they get much better at the art of trading and get fully aware of the discipline and skills needed to trade. “It is literally true that millions come easier to a trader after he knows how to trade than hundreds did in the days of his ignorance,” Livermore said.

7. There is only one side to the stock market: the right side

It is inevitable that investors would make some mistakes from time to time. So one should follow the simple rule, which is to follow the market and not try to predict it to remain on the right side of every trade.

“It takes a man a long time to learn all the lessons from his mistakes. There is only one side to the stock market; and it is not the bull side or the bear side, but the right side,” Livermore said.

8. Don’t trade too large or risk too much

If one trades too heavily, every little movement in the security gives his undue stress. One then runs the risk of losing all the trading capital. Hence, investors should keep risk small so that one doesn’t go broke, but it should be large enough to make it worthwhile. One should spend some time on the strategy and work out the risk level that works for him/her.

“If you can’t sleep at night because of your stock market position, then you have gone too far. If this is the case, then sell your position down to the sleeping level,” said Livermore.

9. Other investors may be irrational

Some investors have the tendency to behave in irrational ways and tend to sell a trade at precisely the wrong time or maybe take profits too early. Informed and experienced traders should take advantage of this fact to earn wealthy returns. “He will risk half his fortune in the stock market with less reflection than the time he devotes to the selection of a medium-priced automobile,” Livermore said.

10. You can’t tell till you bet

One can’t judge a market until you are in it. That is why Livermore always suggested investors to buy a little bit of the market first to test the waters. If the trade felt good, and the stock moved as one liked, one could add a little bit more, gradually building up a bigger and bigger position.

Livermore felt most traders accumulate shares on the way down. Although they see their trade losing money, they still believe they’re right. This mistake leads them to buy more and reduce their cost base, which causes them to average losses and end up building a huge losing position which causes considerable pain. So, he advised investors to wait for the market to tell them where it wants to go.

11. In a bear market, all stocks go down and in a bull market, they all go up

The most important thing that traders should look at is the overall market trend. There’s little point attempting to short stocks in a bull market and buy stocks in a bear market as it’s just a bad strategy.

“I never hesitate to tell a man that I am bullish or bearish. I do not tell people to buy or sell any particular stock. In a bear market, all stocks go down while they all go up in a bull market,” he said.

12. In a narrow market, wait for a breakout

Livermore said markets sometimes consolidate and go sideways for some periods and the market range can narrow and price action can get choppy during such times.

Whenever such a situation arises, the best plan of action would to just sit back and watch. “In a narrow market, when prices do not go anywhere, to speak of, but move within a narrow range, there is no sense in trying to anticipate what the next big movement is going to be. The thing to do is to watch the market, read the tape to determine the limits, and make up your mind that you will not take an interest until the prices break through the limit on either direction,” he said.

13. Never argue with the tape

Many traders make the mistake of venting out their frustration on the market, when they suffer huge losses.

Livermore advised investors to just follow the trend, forget about making predictions, and just go with the flow which can help one trade in a much more relaxed and effective way. “I don’t know whether I make myself plain, but I never lose my temper over the stock market. I never argue with the tape. Getting sore at the market doesn’t get you anywhere. Markets are never wrong, opinions often are,” he said.

14. Hope for profits and fear losses

As investors, it is important to fear losses and hope for more profits. Of one follows this golden rule, it’s equivalent to cutting losses short and letting winning trades run.

“Instead of hoping, one must fear and instead of fearing, he must hope. He must fear that his loss may develop into a much bigger loss, and hope that his profit may become a big profit,” he said.

15. Don’t trade for the thrill

When one gains some experience, s/he realises the cost of trading and benefits of being able to sit tight in a market. It is essential for investors to make only calculated bets and wait for the profits to roll in by always trading according to the trend and according to a plan. To achieve success, it is necessary for investors to resist the desire for action, because that is the gambling mindset. The professional trader simply sits tight and waits for opportunities to come to him.

“The desire for constant action irrespective of underlying conditions is responsible for many losses on Wall Street even among the professionals, who feel they must take home some money every day, as though they were working for regular wages. Remember this: When you are doing nothing, those speculators who feel they must trade day in and out, are laying the foundation for the next venture. You will reap benefits from their mistakes,” he said.

16. Don’t listen to tips

Investors should avoid believing in tips and do their own research and analysis and take trades only according to their own plans. Taking tips from brokers or other persons could be harmful to a portfolio, as brokers might have a conflict of interest and one has no idea of their intentions. “A man must believe in himself and his judgement if he expects to make a living at this game. That is why I don’t believe in tips,” he said.

17 Never be afraid to take a loss

Investors sometimes make some wrong decisions that cause huge losses to capital and confidence. When one does not cut losses, s/he grows and grows them until they become too big and too painful to let go of.

Hence, Livermore advised investors to be never afraid to take a loss, especially when the loss is small and the trade is not working out. “Losing money is the least of my troubles. A loss never troubles me after I take it. I forget it overnight. But being wrong – not taking the loss – that is what does the damage to the pocket book and to the soul,” he said.

18 Wait for price action to confirm your opinion

Traders often get overconfident and think they have figured out the market and know what it’s going to do next. Impatience and greed can cost one dearly and one may often end up on the losing side. “Don’t take action with a trade until the market, itself, confirms your opinion. Being a little late in a trade is insurance that your opinion is correct. In other words, don’t be an impatient trader,” he said.

19 Never average losses

Investors should never average their losses as it simply means adding to a losing trade. “It is foolhardy to make a second trade if your first one shows you a loss. Never average losses. Let this thought be written indelibly upon your mind,” he said.

20. Don’t try and pick the turns

Investors should wait for the trend to turn in their favour, so that they are sure that the momentum has changed. It is easier to wait for a stock to turn and then catch it as it is already going up. Likewise, once a market has peaked out and has already turned down, that’s the time to short it.

«If you want to try and pick the turns successfully, you’re going to have a lot of difficulty and you’ll experience a very low win ratio. That’s simply because it’s almost impossible to pick the turns precisely and come out ahead,” he said.

21 Prices are never too high to begin buying or too low to begin selling

Investors should never avoid a stock because the price looks too high or too low, as they are bound to miss out on some of the biggest trending stocks. The best trades never offer another opportunity to get in at a lower price. So one should take the plunge when one spots a great stock. “Never buy a stock because it has had a big decline from its previous high and never sell one because it seems highly priced,” he said.

22 It is not good to be too curious about all the reasons behind stock price movements

Investors shouldn’t get caught up in trying to understand the reasons behind market behaviour. They should stay flexible when they do have a trade, because they cannot think too deeply about the underlying issues or they will likely stay with a trade too long or get out too quickly.

“You must have an open mind and flexibility. It is unwise to disregard the message of the tape, no matter what your opinion of crop conditions or of the probable demand may be. I recall how I missed a big play just by trying to anticipate the starting signal,” he said.

23 Don’t be controlled by your emotions

The direction of the trend, conservative risk management, and psychology are three things that are most important in trading. The direction of the trend tells investors how to bet, the risk management rules tell them how much to bet. But psychology is the final piece of the puzzle, that makes everything come together.

Hence Livermore felt having the right trading psychology was very important, because if one doesn’t have the right mindset in the first place, he’ll find it extremely hard to follow trends and trading rules. Livermore advised investors to teach themselves discipline and learn to ignore the human impulses, which can help them trade with a clear and logical mindset.

“The human side of every person is the greatest enemy of the average investor or speculator. Fear keeps you from making as much money as you ought to. Wishful thinking must be banished,” he said.

24 One should never permit speculative ventures to run into investments

Investors should have a clear motive as to what they would like to do with their investment. If they’ve made a speculative trade, they shouldn’t let that trade turn into a long-term investment. “The money lost in speculation alone is small compared with the gigantic sums lost by so-called investors who have let their investments ride,” he said.

Livermore said once an investor knows how to find trends and how to manage risk, then his/her ability to control psychology would determine whether or not s/he can beat the market.

(Disclaimer: This article is based on Jesse Livermore’s book How to Trade in Stocks.)





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