Market Wizards is a collection of interviews with traders who have turned measly sums into great fortunes. From those interviews, one can extract a great deal of insights.
• Capital preservation is the most important aspect of building wealth – much in line with Warren Buffett’s famous two rules of investing: “Rule no. 1: Don’t lose money. Rule no. 2: Never forget rule no. 1.”
• Pride has caused a majority of the traders to loose hefty sums of capital because they were convinced that they were right, which caused them to stick with loosing positions that eventually wiped them out.
Momentum/trend-following seems to be the strategy that have made the bulk of these traders rich. The traders “ride” an uptrend by going long or a downtrend by shorting; as soon as the trend changes, they exit the position.
• “Traders often confuse the concepts of winning and losing trades with good and bad trades. A good trade can lose money, and a bad trade can make money.”

If stories of how metaphorical pennies turns to millions float your boat, then Market Wizards is the mother-ship. You’ll learn how Michael Marcus ensured a 2,500-fold return in just 10 years; how Bruce Kovner went about creating an 87% annualized compounded return in the course of a decade; how Paul Tudor Jones made triple-digit percentage returns five years in a row, and loads more. Amidst all these amazing stories of riches are a lot of valuable lessons.

Play great defense
The majority of the wizards Jack Schwager interviewed put emphasis on capital preservation. Namely, their focus is first and foremost on not losing money – much in line with Warren Buffett’s famous two rules of investing: “Rule no. 1: Don’t lose money. Rule no. 2: Never forget rule no. 1.”

For instance, Paul Tudor Jones says: “Don’t focus on making money; focus on protecting what you have […] The most important rule in trading is: Play great defense, not great offense.” (p. 136-137). It goes very much against the common dogma “higher returns can only be achieved by taking greater risks.” To a value investor, nothing could be further from the truth. To a Grahamite, disciples of Benjamin Graham, high returns are achieved by minimizing risk. As I mentioned in the post What is value investing? “Value investors seek safety in a stock’s balance sheet and/or a wide moat that ensures its long-term survival. The Dhandho-mantra “heads, I win; tails, I don’t lose much” thus sums-up the philosophy perfectly.”

Losing all your capital due to high-risk/speculative bets is probably the most dangerous path an ‘investor’ can embark on, as captured by Larry Hite’s two rules: “1) If you don’t bet, you can’t win. 2) If you lose all your chips, you can’t bet.” (p. 190)

Pride as a nemesis
A surprisingly large number of the wizards started out by losing everything – quickly. It taught them a lesson: Lose your pride. The investors often lost their fortunes because they were convinced that they were right, which caused them to stick with losing positions that eventually wiped them out.

When Jack asked Marty Schwartz why most traders lose money, he answered: “Because they would rather lose money than admit they’re wrong.” (p. 279) Pride and excessive confidence can be terrible hindrances that cause an emotional commitment to an idea. That’s a no-go. You shouldn’t romanticize a relationship to a stock. Michael Steinhardt puts it well: “Good trading is a peculiar balance between the conviction to follow your ideas and the flexibility to recognize when you have made a mistake.” (p. 218)

Speaking of conviction, I found Jim Rogers’ comment on the topic quite compelling: “[Don’t] do anything unless you know what you are doing. […] It is better to do nothing and wait until you get a concept so right, and a price so right, that even if you are wrong, it is not going to hurt you.” (p. 303) Obviously, finding such situations that are so right is easier said than done, but if Jim is able to do to so on a regular basis, it explains why he’s fortune exceeds $300 million.

Momentum’s the word
Usually, I read books on investing, not trading. However, the wizards in Jack’s book are just that: traders. In length, these market participants’ tools of choice are technical analysis and charts. However, the traders don’t claim to be able to foretell a security’s direction via cross formation this and wave pattern that, as described by Bruce Kovner: “Some technicians claim that [technical analysis] predicts the future. Technical analysis tracks the past; it does not predict the future. For me, technical analysis is like a thermometer. […] Is [the market] hot and excitable, or cold and stagnant[?]” (p. 62)

If technical analysis and charting can’t predict the future, how do you profit from it? It appears that the answer is momentum. Basically, all the interviewed traders said something along the lines of Richard Dennis: “The market being in a trend is the main thing that eventually gets us in a trade.” (p. 102) It sounds insanely simple, and perhaps it is (though I suspect there’s more to it), but a bunch of the traders said they simply “ride an uptrend” and exit the position as soon as that trend changes. Similarly, if a stock is declining they “ride the downtrend” by shorting the stock, commodity, bond or whatever it might be.

As implied above, it can’t be that simple, and I’m sure it isn’t. Michael Marcus goes a bit further to elaborate on his technique: “The best trades are the ones in which you have all three things going for you: fundamentals, technicals, and market tone. First, the fundamentals should suggest that there is an imbalance of supply and demand, which could result in a major move. Second, the chart must show that the market is moving in the direction that the fundamentals suggest. Third, when news comes out, the market should act in a way that reflects the right psychological tone. […] If you can restrict your activity to only those types of trades, you have to make money, in any market, under any circumstances.” (p. 27)

Now, when it comes to implementing these technical/charting strategies, I’m completely blank. I’m a fundamentalist by heart, and have no insight nor interest (for now, at least) to master the technician’s craft. Hence, I’ll leave the exploration of such to you, the reader.

A losing trade as a correct trading decision
In the chapter outlining Jack’s own reflections, he presents a point that is very much in line with a quote I found quite profound in Nassim Taleb’s Fooled by Randomness: “A mistake is not something to be determined after the fact, but in the light of the information until that point.”

Jack’s equivalent to Nassim’s statement goes: “Traders often confuse the concepts of winning and losing trades with good and bad trades. A good trade can lose money, and a bad trade can make money. A good trade follows a process that will be profitable (at an acceptable risk) if repeated multiple times, although it can lose money on any individual trade. A bad trade follows a process that will lose money if repeated multiple times, but may make money on any individual trade.” (p. 443)

A good trade can lose money, and a bad trade can make money. Though it doesn’t make intuitive sense, the sentiment is on-point. An otherwise intelligent investment doesn’t become idiotic just because it didn’t pan out. Conversely, a foolish bet doesn’t become brilliant simply because one got lucky.


Jakob Bruhn is part of The Investor’s Podcast writing team, and has his own value investing blog dhandho.dk/en/