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Old 10-25-2012, 08:50 AM   #17

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Re: Position Sizing or Diversification?

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Originally Posted by ForexTraderX »
Don't accept cliche's at face value. Try to find circumstances and situations that they DON"T work.... because that will provide you insight as to how they apply, and this insight will help you be better prepared to know the right course of action for your own financial decisions.

Hope this helps a bit. It's rather long, I do apologize.

FTX
Hi FTX,

Thanks for an excellent response!

By trotting out those cliches I wasn't meaning to imply that I agree with them, but rather wanting to open them up for discussion - that's why I placed question marks at the end of each sentence to try and make them less declaritive. From what I've experienced in the past at TL, it can be quite tricky getting people to engage with money management type threads!

As far as the cliche is old, I guess it's pretty much the problem of induction (David Hume? 1600 and something?) - "just because past futures resembled past pasts doesn't mean that future futures will".

What about if we remove the grayer shades of mutual funds and Warren Buffet's returns? Suppose you had to keep your entire net worth in inflation-indexed fixed income government bonds (with no currency risk). So unless the issuing government goes bust, there is hypothetically no risk. Would you purchase the bonds of just one nation? Would you not try and diversify, imagining a scenario thirty years down the line where, say, the UK became economically unstable?

That takes things off at a bit of a tangent, but then I started the thread, so . . .

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Old 10-26-2012, 12:27 AM   #18

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Re: Position Sizing or Diversification?

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Hi FTX,

Thanks for an excellent response!

By trotting out those cliches I wasn't meaning to imply that I agree with them, but rather wanting to open them up for discussion - that's why I placed question marks at the end of each sentence to try and make them less declaritive. From what I've experienced in the past at TL, it can be quite tricky getting people to engage with money management type threads!

As far as the cliche is old, I guess it's pretty much the problem of induction (David Hume? 1600 and something?) - "just because past futures resembled past pasts doesn't mean that future futures will".

What about if we remove the grayer shades of mutual funds and Warren Buffet's returns? Suppose you had to keep your entire net worth in inflation-indexed fixed income government bonds (with no currency risk). So unless the issuing government goes bust, there is hypothetically no risk. Would you purchase the bonds of just one nation? Would you not try and diversify, imagining a scenario thirty years down the line where, say, the UK became economically unstable?

That takes things off at a bit of a tangent, but then I started the thread, so . . .

BlueHorseshoe
Glad you liked the post... and I have my thoughts on your comment here, but as you say yourself...we arn't exactly talking about day trading any more.... but I don't think I can give you a real answer in this new hypothetical... because like most things in life, diversification comes with a cost. I mean, all things being equal, if you could keep your entire net worth in such a instrument, I would need to know what I give up to diversify... control? flexibiilty? interest rate? good credit rating? relative stability of one nation to the other.... etc...

I suppose two such instruments issued by two different nations that were essentially "twins" of each other, meaning same basic GDP, credit rating, interest rate, fees, taxes, etc.... Then I probably would diversify between them both, as a hedge against largescale fradulent activity that could poentially render a crippling financial blow if when it is uncovered...

but, it's never this straight across. In real life where most of us live... I would make sure the government issuing the bonds was stable enough (or the returns high enough) to justify the investment in the first place. If a nation met this criteria, I would choose the best of those that met it. It would be more of a "pass or fail" situation...and I'd likely choose from the ones who "passed", but also offered the best terms for my particular needs and situation.

It really comes down to this. Knowing what you want, and knowing what you NEED... and knowing the difference between the two. Once you know this, an investment of any kind either fits the criteria, or it doesn't. If it fits all your needs, AND your wants... it doesn't mean that it's the perfect investment for you.... but it does mean that you can ignore all the outside noise, cliche's, "common knowledge" and other gibberish... because none of that matters to you anyway. All that matters is that your needs are all addressed, and hopefully you get a lot of your "wants" met as well. If this is the case with an investment, then really nothing else matters.

FTX
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Old 10-26-2012, 07:15 AM   #19

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Re: Position Sizing or Diversification?

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What if your chosen market suddenly starts to behave differently? You won't "blow up", but you might lose profitability. It's quite likely that this change of behaviour will happen; the probability that all markets in a non-correlated portfolio would start to behave differently all at the same time should be much lower. Or not?

BlueHorseshoe
It is a given that your market will behave differently over time.

You can't keep taking money from the same people without them going broke or learning.
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Old 10-26-2012, 04:16 PM   #20

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Re: Position Sizing or Diversification?

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It is a given that your market will behave differently over time.

You can't keep taking money from the same people without them going broke or learning.
I'm not so sure about the "market will behave differently over time" assertation. I mean, in a broad sense, ya, sure, absolutely. But I don't think it has much to do with individuals going broke or learning.

Yes, I do think individuals go broke. And I do also think that they learn. But human nature doesn't change...and every day, some market participants die off, and new ones enter the markets. The "changes" that we observe in markets are largely a function of basic market structural changes (decimilization of the stock market for example), technology changes (HFT and home based retail trading), or business/economic cycles and trends (dot com era, long term american financial growth/decline...etc)

I think those 3 types of factors actually can and do change the behavior of markets for large periods of time, and possibly even permanently (like the internet has done).... but the effect of individuals changing the markets as you infer would require a proportionally higher amount of people to either "figure it out" or "go broke" than existed at some previous point in history. And I doubt that this is ever really the case.

Access to helpful resources and information has become better, but so has access to a larger amount of misinformation and bad advice. The barriers to entry as a trader have become significantly lower over the past 20 years, but that brings as many more bad traders than good traders.

I could go on and on...but I think in the end, what distinguishes some from the rest is that they are flexiable, confident, determined, capable, talented, and deeply desire to be successful traders. And the rest are missing one or more of these characteristics.

And I don't think time is a function of it here. As ed Seykota once said something to the effect of: "many are called and few are choosen"

Markets can and do behave differently over time. They also always behave the same...just the scale and proportion and ratios of each phase of a market cycle will change.

But they don't change because some go broke and others learn. As a species, we reproduce too fast, change too slowly, and die off too often for individual change to somehow add up in the aggregate in a way that alters the way a market rises and falls.

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Old 10-26-2012, 04:59 PM   #21

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Re: Position Sizing or Diversification?

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I'm not so sure about the "market will behave differently over time" assertation. I mean, in a broad sense, ya, sure, absolutely. But I don't think it has much to do with individuals going broke or learning.

Yes, I do think individuals go broke. And I do also think that they learn. But human nature doesn't change...and every day, some market participants die off, and new ones enter the markets. The "changes" that we observe in markets are largely a function of basic market structural changes (decimilization of the stock market for example), technology changes (HFT and home based retail trading), or business/economic cycles and trends (dot com era, long term american financial growth/decline...etc)

I think those 3 types of factors actually can and do change the behavior of markets for large periods of time, and possibly even permanently (like the internet has done).... but the effect of individuals changing the markets as you infer would require a proportionally higher amount of people to either "figure it out" or "go broke" than existed at some previous point in history. And I doubt that this is ever really the case.

Access to helpful resources and information has become better, but so has access to a larger amount of misinformation and bad advice. The barriers to entry as a trader have become significantly lower over the past 20 years, but that brings as many more bad traders than good traders.

I could go on and on...but I think in the end, what distinguishes some from the rest is that they are flexiable, confident, determined, capable, talented, and deeply desire to be successful traders. And the rest are missing one or more of these characteristics.

And I don't think time is a function of it here. As ed Seykota once said something to the effect of: "many are called and few are choosen"

Markets can and do behave differently over time. They also always behave the same...just the scale and proportion and ratios of each phase of a market cycle will change.

But they don't change because some go broke and others learn. As a species, we reproduce too fast, change too slowly, and die off too often for individual change to somehow add up in the aggregate in a way that alters the way a market rises and falls.

FTX
I am speaking more about an edge that you may have in the market. It frequently goes stale. It goes stale because the lemmings that you are used to taking money from cease to exist as they were either by learning or extinction. Eventually a new flock comes back, but for a time being the new flock sees that what the old lemmings were doing does not work and won't engage in the activity that gave you an edge. But at some point they will.

You too will then have to learn that the edge is not working as it was or perish along with the lemmings since if you can't take advantage of anyone in the market, you will be taken advantage of. If markets were in fact the same all the time, then you would be able to do the same old thing and make money all the time. That type of thinking is holy grailish.
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Old 10-26-2012, 07:16 PM   #22

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Re: Position Sizing or Diversification?

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I am speaking more about an edge that you may have in the market. It frequently goes stale. It goes stale because the lemmings that you are used to taking money from cease to exist as they were either by learning or extinction. Eventually a new flock comes back, but for a time being the new flock sees that what the old lemmings were doing does not work and won't engage in the activity that gave you an edge. But at some point they will.

You too will then have to learn that the edge is not working as it was or perish along with the lemmings since if you can't take advantage of anyone in the market, you will be taken advantage of. If markets were in fact the same all the time, then you would be able to do the same old thing and make money all the time. That type of thinking is holy grailish.
"Edge" is a strange word, though I often use it myself. In an idealistic sense, an edge can never be lost because it is a fundamental and immutable true decription of some aspect of market behaviour . . . If you think there is such a description is impossible and markets always change . . . well that is just another meta-theory and you could exploit it as an edge. As Terry Eagleton put it 'not having an ideology is an ideology'. Enough of that though!

In the less general sense that you're using the word (with "edge" pressumably more similar to "strategical advantage"?) then I wonder whether what you say is true? Surely in any large and liquid market it is not a question of specific traders evolving or perishing . . . Isn't it more useful to think of other traders in terms of "types"? And if you do this, isn't it easy to imagine that a certain type is always re-populated as its old members perish or evolve?

A more concrete example: those who buy breakouts in the ES on 5min charts are not the same traders who bought into these same moves five years ago. Those doing this five years ago perished or evolved. But someone else is doing it today, and I can still take the other side of their trade.

All of this kind of feeds back into the topic in my mind as follows:
  1. As the lemming's numbers depreciate, so too must the liquidity into which you can lean a money management approach. So whether a class of participants who wise up and are, or are not replaced, is critical to position sizing.
  2. If the proliferation of lemmings across any specific instance of a bunch of markets is random, and lemming extinction is a function of time, then diversification makes sense: the more you diversify the more chance you have of taking the opposite side of a population of lemmings in an ascendent phase . . .

Christ that got wordy!

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Old 10-26-2012, 08:26 PM   #23

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Re: Position Sizing or Diversification?

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I am speaking more about an edge that you may have in the market. It frequently goes stale. It goes stale because the lemmings that you are used to taking money from cease to exist as they were either by learning or extinction. Eventually a new flock comes back, but for a time being the new flock sees that what the old lemmings were doing does not work and won't engage in the activity that gave you an edge. But at some point they will.

You too will then have to learn that the edge is not working as it was or perish along with the lemmings since if you can't take advantage of anyone in the market, you will be taken advantage of. If markets were in fact the same all the time, then you would be able to do the same old thing and make money all the time. That type of thinking is holy grailish.
Ok Mighty, I see your point, and it has it's merits. The "january effect" is now more like a "january afterthought"... "IPO investing is a great way to wealth", as long as quit investing by around March of 2000, or talk to anyone who facebooked their portfolios. And of course "buy and hold" has been dead for a decade and counting... etc.

Also, mathmatically based, statistically valid edges are vulnerable to possible extinction. A chart pattern that works 64% of the time now may not work that well in the future, if it works at all.

But there are other, less specific, more conceptual ways of trading that I believe will always remain viable, because their existance is rooted in the very heart of how human beings compete with one another to make a profit in a free floating, auction market model.
Take the concept of "support and resistance" for example. We can measure it differently today than yesteryear, and maybe it works better or worse at different times and in different markets, but if someone bases a strategy on identifying areas of support or resistance...well, it's probably going to work for a good, looong time.

Another one is the nature of markets is to be mean reverting. Once a market swing hits a capitulation point where there is simply not enough buyers at that time and price to outbid sellers at that time in price, an upswing will start to turn down. And because humans hate to lose money more than they like to make money, the former bullish winners become losers at a higher frequent and the losses are in greater magnitude as the bear move takes over...thus forcing more selling, etc. Until of course this has exhausted itself again, and starts over the other way.

If one identifies a variety of ways to determine this "overboughtness" or "oversoldness" (and not just one. and also not a stochastic oscellator)... and this same person also is constantly looking for new or better tools and methods that help them measure this overbought or oversoldness.... then one now has a strategy or methodology that I daresay has an "eternal edge"

Because the individual tools can and DO break down over time, yes. But the "edge" IMO is not the tool, it's the IDEA behind the reason for that tool to exist in the first place.

A good mechanic is a good mechanic. Sure, this mechanic like every other will need many tools to do his job, and sometimes, those tools wear out, break down, get stolen, or become obsolete.

But are those tools what makes him a good mechanic? I'd say no. It's his experience, his knowledge, his ability to understand mechanical problems and find solutions for those problems. His tools do not provide his "edge". They facilitate the proper implementation of his "edge".

And unless the guy has a stroke, or the world of physics and simple machines like levers, wedges and pullys suddenly travels through an alternate universe where matter exists as energy alone (or whatever).... he will be a good mechanic. He will have an "edge" on fixing cars.

mathmatically based, statistical edges do come to an end (options trading edges from optiosn mispricing has changed greatly over the last 40 years)

market cycle or "flavor of the month" based edges also do end. (dotcom IPO's... commodities during stagflation in the 70s. Buying and flipping real estate in 2000-2006)

but edges that are based on market principles don't end. The tools one needs to measure them in detail may change. but these edges don't change. And in this perspective...neither do markets.

FTX





But, conceptual based "edges"
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Old 10-26-2012, 10:19 PM   #24

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Re: Position Sizing or Diversification?

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Originally Posted by BlueHorseshoe »
"Edge" is a strange word, though I often use it myself. In an idealistic sense, an edge can never be lost because it is a fundamental and immutable true decription of some aspect of market behaviour . . . If you think there is such a description is impossible and markets always change . . . well that is just another meta-theory and you could exploit it as an edge. As Terry Eagleton put it 'not having an ideology is an ideology'. Enough of that though!
An edge is within you. It is your ability to take money from other traders. It is the mental game. More specifcally, it is knowing when others are going to be wrong. You won't find it on a chart or a spread sheet. Do statistical arbitrage opportunities exist? Yes, if you are fast enough to find them. An edge does not occur when line A crosses over line B.
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Originally Posted by BlueHorseshoe »
Isn't it more useful to think of other traders in terms of "types"? And if you do this, isn't it easy to imagine that a certain type is always re-populated as its old members perish or evolve?
They absolutely repopulate but you may have to be patient for them to come back; and, yes, I do see them as types. In my opinion seeing them as types and identifying which types are active is critical to succeeding. You need to have a good idea if there are traders who will pay you before you take a trade.
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Originally Posted by BlueHorseshoe »
A more concrete example: those who buy breakouts in the ES on 5min charts are not the same traders who bought into these same moves five years ago. Those doing this five years ago perished or evolved. But someone else is doing it today, and I can still take the other side of their trade.

All of this kind of feeds back into the topic in my mind as follows:
  1. As the lemming's numbers depreciate, so too must the liquidity into which you can lean a money management approach. So whether a class of participants who wise up and are, or are not replaced, is critical to position sizing.
  2. If the proliferation of lemmings across any specific instance of a bunch of markets is random, and lemming extinction is a function of time, then diversification makes sense: the more you diversify the more chance you have of taking the opposite side of a population of lemmings in an ascendent phase . . .

Christ that got wordy!

BlueHorseshoe
If you need to make money from trading and can't wait for the lemmings to be repopulated the market, then perhaps you should learn how to trade other markets, but they do come back.

The lemming analogy only really goes so far since we are human and not driven by instinct.
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