Last week, I wrote about one of Jesse Livermore’s triumphs. This week, however, it’s a tragedy I’m writing about.

Seventy-three years ago, on March 19 1934, Time Magazine reported Jesse Livermore’s final bankruptcy.

From the 1929 pinnacle of his career, when he shorted the market for a profit of $100 million, less than five years had passed.

A few months earlier, Jesse Livermore had gone missing and his wife had called in the police. A day after disappearing he had returned home, walking unsteadily. He had spent the night in a hotel and had awoken with a blank mind. Reading newspaper headlines about his disappearance brought him to his senses. His doctor’s verdict: “Amnesia nervous breakdown.”

It’s likely that during this period of his life, Livermore was suffering badly from the clinical depression he suffered from at various times.

He listed liabilities of $2,259,212.48, and assets of $184,900, mostly life insurance. (He also had large annuities bought to protect his family in the event of bankruptcy.)

Livermore’s financial plight also produced further evidence, adding to his reputation as a womanizer:

To Lucille Ballantine – a dancer – he had promised to pay $150 per month for five years for keeping him “cheered and amused” while he was getting his second divorce.

A former employee – Naida L. Krasnova – was suing him for breach of promise. (Claiming he had promised to marry her.)

Time commented: “Perhaps Jesse L. Livermore will come back as he has done three times before. That was what his lawyers had in mind last week when they declared: ‘Mr. Livermore has made three very large fortunes. … He has failed three times, on each occasion [he] has paid 100 cents on the dollar with interest, and hopes to do so again.’ ”

Sadly, on this occasion, the lawyers’ optimism was misplaced.

I recall a discussion I had around 5 years ago with a semi-sucker.

This particular semi-sucker had misunderstood a trading book. He believed it should be possible using money management techniques to beat the casino at roulette. Provided he could cut his losses (by leaving the casino when he was losing) and let his profits run (by continuing to play when he was winning) he was “bound to make money”.

Now, I know this gambling strategy sounds superficially similar to Livermore’s strategy of quickly closing losing trades and allowing winning trades to run: but there’s one crucial difference. Livermore’s strategy – through his tape reading and trend following – had positive mathematical expectation. ^*

The suckers who play roulette in casinos do so under the handicap of negative expectation. It’s the casino owners who enjoy positive expectation – why else would they be in the business? The direction of money flow is from a casino’s customers to its owners.

Money management can’t turn a game with negative expectation into one you can win – it can only keep you playing longer. All that our semi-sucker friend could hope to achieve was more nights at the casino. Eventually, the casino would take all of his money.

The same outcome awaits the sucker who begins trading when his mathematical expectation is negative. Unless he is lucky, money will flow from him to people who have better trading strategies than he does. If he wins through good luck, the more often he plays, the likelier it is that his luck will run out.

The good news is that some markets are more forgiving than others. Given the long-term uptrend of the major stock indices, it’s often possible to turn a profit on long stock trades, even if you have poorer than average trading skills. Your profit will, of course, be lower than if you had simply put your money into an index-fund. And, with below average skills/knowledge/strategy, you’re more likely to end up with a big loss than a small profit – especially if you trade frequently.

^* Mathematical Expectation: Your chances are 50/50 when you bet on the toss of a fair coin. If the coin is loaded, however, and it landed heads more often than tails, then betting on heads has positive expectation and betting on tails has negative expectation.

In his 1987 letter to shareholders, the masterfully quotable Warren Buffett said, “If you’ve been in the [poker] game 30 minutes and you don’t know who the patsy is, you’re the patsy.”

In the same letter, he said, “If you aren’t certain that you understand and can value your business far better than Mr. Market, you don’t belong in the game.”

Four Grades of Sucker

The equally masterful quote-smith, Jesse Livermore, categorized four grades of sucker:

The Beginning Sucker: has read little and knows little.

The Semi-Sucker: has read books about trading – usually written by higher-grade suckers. He can recite wise stock market sayings. He does not realize that reading books is not the same as trading experience. He loses money more slowly than the beginning sucker because he has learned some basic trading rules.

The Wall Street Fool: knows enough to make a profit if he sticks faithfully to his trading rules. The excitement of the market overpowers the fool; he trades more often than he should and loses his advantage over the market.

The Higher Grade Sucker: makes his money from selling trading books because he can’t make money in the markets.

Although Buffett and Livermore are at opposite ends of the financial spectrum in terms of buy and sell criteria, they wholeheartedly agree that if you don’t have some advantage over average market participants, you’ll lose money.

There are a lot of intelligent players in the markets and plenty of fools too. Unfortunately, too many stock market books try to persuade their readers that fools predominate, lulling the semi-sucker into a false sense of security. If only you will do what it says in the book (often with too little detail to put together a truly effective trading strategy) you’ll be successful.

Before you trade, you should have some idea of where your advantage is coming from. You should paper trade to verify your advantage.

Then you need to trade for real – this is hardest of all because once you have your own money in the markets, your emotional involvement increases. The emotions – greed and fear start kicking in – cause difficulties for many traders. Some find the advantage they thought they had evaporates.

So, do you call yourself a beginning sucker, a semi-sucker, a Wall Street fool, a higher-grade sucker or a successful trader? The best test is the direction of your trading account balance over several years. As an alternative, though, you could try passing the Stock Market Sucker Test.

In How to Trade in Stocks, Jesse Livermore discussed “the folly of trying to find out a good reason why you should buy or sell a given stock.”

He wrote in the context of the behavior of U.S. stocks, whose four major sectors – including steel makers – had risen after World War 2 began. While other sectors continued to advance, U.S. steel stocks stopped rising.

Livermore wrote that there must have been a good reason why the steel stocks had stopped rising but he didn’t know what it was.

It was not until four months later that the public was given the facts and the action of the steel stocks – which had by now fallen 26 to 29 points – was finally explained. The British and Canadian governments had been selling large volumes of shares in U.S. steel makers. (Presumably to fund their war efforts.)

“If you wait until you have the reason given, you will have missed the opportunity of acting at the proper time!

“The only reason an investor or speculator should ever want to have pointed out to him is the action of the market itself.

“Whenever the market does not act right or in the way it should – that is reason enough for you to change your opinion and change it immediately.

“Remember: there is always a reason for a stock acting the way it does.

“But also remember: the chances are that you will not become acquainted with that reason until some time in the future, when it is too late to act on it profitably.”

As you can see, I’ve spent some time upgrading the site in the last couple of days. I hope you’ll find the new Most Popular Posts and Tagging features helpful.

Since we’ve reached the end of the year (I’ll add a belated Happy Christmas to everyone) I’ve looked over this year’s posts and picked out the five I liked best. These range from the comic (well, I tried my best…!) to trading methods to biographical. In no particular order, I’ve picked:

You know you’re under Jesse Livermore’s spell when…
You know you’re under Jesse Livermore’s spell when you tell anyone who’ll listen that “there is nothing new in Wall Street”. You start talking about the size of the line you’re swinging. You often begin sentences with the words “There I was…” […]

Investing Books – A Lesson from History
In 1998 the investor announces that, having read Mr. Fisher’s book, he has decided to invest all of his money!!! in Coca-Cola. Here’s Coca-Cola’s stock price chart since 1997 (with all of the reviewer’s money invested in it!).

Accurate Stock Picks vs Precise Stock Picks
For example, the oil sands that I mentioned in Alberta were marginal or unprofitable at $20 – $30 oil. A big increase in oil prices would almost certainly give a bigger boost to oil-sand company’s profits than to Exxon’s. […]

Pyramiding, Locking in Profits, or enjoying the Ride
If you’ve never done much trading, the problem of how to deal with trades that move nicely in the right direction won’t seem like a problem – but it is. When a trade moves in the right direction you need to make as much money out of it as you can; remember that quote from George Soros I mentioned earlier this month, “It doesn’t matter how often you are right or wrong – it only matters how much you make when you are right versus how much you lose when you are wrong.”[…]

Jesse Livermore in 1907
February 1907 – exactly one century ago – was an exciting year for Jesse Livermore. In 1906, he had hit the big time – profiting by over a quarter million dollars – by shorting the market just before the San Francisco earthquake. It was at about this time that Livermore consciously began changing his trading style. He decided that the key to success lay in […]

I also loved the two guest posts in November from

Chuck Gray – Pretty Girls – You are Bad Trades

and David Wallace – Mathematicians and Physicists Emerge From Geekiness To Dominate Hedge Fund Trading

By the way, high quality guest posts that would be of interest to Jesse Livermore readers are still very welcome – you’ll get full credit for the post – attribution to your name (or pen name) and, if you have your own stock related blog or site, you can add a link to it.

Click on Contact near the bottom of the navigation links on the left-hand side if you want to send in a post.

And that’s it for 2007.

All I have to do now is to wish each and every one of you a stimulating, successful and – above all – a HAPPY 2008!

On October 24 1907, Jesse Livermore made his first $1,000,000.

Summer 1907, Jesse had sailed to France. His account balance stood at three-quarters of a million dollars, made shorting the markets. Here’s how, in Reminiscences of a Stock Operator, Jesse Livermore describes how he made his first million dollars

Vacation Time
“I was in Aix-les-Bains enjoying myself. I had earned my vacation. It was good to be in a place like that with plenty of money and friends and acquaintances and everybody intent upon having a good time… Wall Street was so far away that I never thought about it… I didn’t have to listen to talk about the stock market. I didn’t need to trade. I had enough to last me quite a long time, and besides, when I got back I knew what to do to make much more than I could spend in Europe that summer.”

Jesse Livermore Smells Market Manipulation
“One day I saw in the Paris Herald a dispatch from New York that Smelters had declared an extra dividend. They had run up the price of the stock and the entire market had come back quite strong. Of course that changed everything for me in Aix. The news simply meant that the bull cliques were still fighting desperately against conditions – against common sense and against common honesty, for they knew what was coming and were resorting to such schemes to put up the market in order to unload stocks before the storm struck them.”

Insiders Begging To Be Shorted
“At all events, I knew that all bull manipulation was foredoomed to failure in that bear market. The instant I read the dispatch I knew there was only one thing to do to be comfortable, and that was to sell Smelters short. Why, the insiders as much as begged me on their knees to do it, when they increased the dividend rate on the verge of a money panic. It was as infuriating as the old “dares” of your boyhood. They dared me to sell that particular stock short.”

Livermore Starts Selling Smelters Short
“I cabled some selling orders in Smelters and advised my friends in New York to go short of it. When I got my report from the brokers I saw the price they got was six points below the quotations I had seen in the Paris Herald. It shows you what the situation was. My plans had been to return to Paris at the end of the month and about three weeks later sail for New York, but as soon as I received the cabled reports from my brokers I went back to Paris. The same day I arrived I called at the steamship offices and found there was a fast boat leaving for New York the next day. I took it. There I was, back in New York, almost a month ahead of my original plans, because it was the most comfortable place to be short of the market in. I had well over half a million in cash available for margins.”

Livermore’s Shorting Gains Momentum
“From the latter part of September on, the money market was megaphoning warnings to the entire world. But a belief in miracles kept people from selling what remained of their speculative holdings… Things got worse and worse. Finally there came the awful day of reckoning for the bulls and the optimists and the wishful thinkers and those vast hordes that, dreading the pain of a small loss at the beginning, were now about to suffer total amputation—without anaesthetics. A day I shall never forget, October 24, 1907.”

Livermore’s Conscience Kicks In – And An Instinct For Profit
“I had enormous paper profits and the certainty that all that I had to do to smash prices still more was to send in orders to sell ten thousand shares each of Union Pacific and of a half dozen other good dividend-paying stocks and what would follow would be simply hell. It seemed to me that the panic that would be precipitated would be of such an intensity and character that the board of governors would deem it advisable to close the Exchange.

“It would mean greatly increased profits on paper. It might also mean an inability to convert those profits into actual cash. But there were other things to consider, and one was that a further break would retard the recovery that I was beginning to figure on, the compensating improvement after all that bloodletting. Such a panic would do much harm to the country generally. I made up my mind that since it was unwise and unpleasant to continue actively bearish it was illogical for me to stay short. So I turned and began to buy. It wasn’t long after my brokers began to buy in for me— and, by the way, I got bottom prices—that the banker sent for my friend.

No Longer a Gambler, but an Intelligent Trader
“I came out of it in fine shape. The newspapers said that Larry Livingston, the Boy Plunger, had made several millions. Well, I was worth over one million after the close of business that day. But my biggest winnings were not in dollars but in the intangibles: I had been right, I had looked ahead and followed a clear-cut plan. I had learned what a man must do in order to make big money; I was permanently out of the gambler class; I had at last learned to trade intelligently in a big way. It was a day of days for me.”

(1) Jesse Livermore was born July 26, 1877. Some other events that took place in this year were: Queen Victoria became Empress of India, Crazy Horse fought his last battle with the US Cavalry, Mars’ outer moon Phobos was discovered and Thomas Edison invented the phonograph.

(2) From his earliest days, Livermore spent the money he took from the markets freely – enjoying the sort of lifestyle more usually associated with Hollywood’s biggest stars.

(3) He was a cigar smoker.

(4) His favorite hobby was fishing and he also enjoyed hunting and playing golf.

(5) He took long vacations – often in Florida for a month or more in winter – or sailing to European resorts in his ocean-going yacht.

(6) He believed his breaks from routine – when sailing or fishing – allowed him to have some of his best ideas.

(7) He was a three-times married womanizer.

(8) Throughout his life, he suffered from clinical depression.

(9) Jesse Livermore died, aged 63, on November 28, 1940. Some other events that took place in this year were: Germany invaded France, Winston Churchill become Prime Minister of the UK and Franklin D. Roosevelt was re-elected US president.

Napoleon, when hearing good things about potential senior officers liked to ask, “but is he lucky”?

I’ve known people who have traded the markets for years with only red ink to show for it. From a technical standpoint they seem to know what they’re doing, but they are just unlucky. Or are they?

Napoleon’s question was astute because it’s possible for someone to apparently know what they’re doing but, in the heat of the battle (or in the middle of a trade) deficiencies emerge resulting in defeat. Someone who in battle or trading seems to be consistently lucky is either very good at what they do or is enjoying improbably good fortune.

When someone commented on how lucky he’d been, Arnold Palmer replied:

“It’s a funny thing, the more I practice the luckier I get.”

Unfortunately, this doesn’t seem to work for would-be traders who lose money without fail. No matter how much they practice, they can’t seem to trade consistently profitably.

Clearly the consistently lucky battlefield commander or trader enjoys an edge on his less fortunate colleagues.

Jesse Livermore – in contrast to many self-made men – was happy to put some of his successes down to luck.

Of his 1915/16 comeback from bankruptcy, and his $3 million profit, he said:

“I was very lucky. I was rampantly bullish in a wild bull market. Things were certainly coming my way so that there wasn’t anything to do but to make money.”

And

“As you may remember, I was busy ‘coming back’ in 1915. The boom in stocks was there and it was my duty to utilize it. My safest, easiest and quickest big play was in the stock market, and I was lucky, as you know.”

Speaking of luck in more general terms, he said:

“Of course, if a man is both wise and lucky, he will not make the same mistake twice. But he will make any one of the ten thousand brothers or cousins of the original. The mistake family is so large that there is always one of them around when you want to see what you can do in the fool-play line.”

Avoiding Mistakes

Jesse is pointing out that successful traders need to minimize mistakes. It’s the same in war, or in sports contests. Most battles and sports games are not won by moments of genius – these are few and far between. The contestants who make fewest errors win most contests.

The “lucky” trader is one who minimizes mistakes AND, if they do make a mistake, acts to minimize the damage by exiting from the situation quickly. In practice this means having a written plan for each trade you enter, the most important element of which is the stop-loss.

Jesse Livermore described the emotions of hope, greed and fear at various times as:

* The speculator’s chief enemies
* His natural foes
* The speculator’s deadly enemies

Livermore’s views on hope and fear lie at the heart of successful trading. He describes how traders fail when they allow hope of recovery to prevent them cutting their losses and fear of losing a small profit to make them sell prematurely, when more profit would have been available if only they had the nerve to stick with the trend.

“The speculator’s chief enemies are always boring from within. It is inseparable from human nature to hope and to fear. In speculation when the market goes against you you hope that every day will be the last day—and you lose more than you should had you not listened to hope….

“And when the market goes your way you become fearful that the next day will take away your profit, and you get out—too soon. Fear keeps you from making as much money as you ought to. The successful trader has to fight these two deep-seated instincts. He has to reverse what you might call his natural impulses.

“Instead of hoping he must fear; 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.

AND

“I am fairly immune from the commoner speculative ailments, such as greed and fear and hope. But being an ordinary man I find I can err with great ease.”

AND

“The speculator’s deadly enemies are: Ignorance, greed, fear and hope. All the statute books in the world and all the rules of all the Exchanges on earth cannot eliminate these from the human animal. Accidents which knock carefully conceived plans sky-high also are beyond regulation by bodies of coldblooded economists or warm-hearted philanthropists. There remains another source of loss and that is, deliberate misinformation as distinguished from straight tips. And because it is apt to come to a stock trader variously disguised and camouflaged, it is the more insidious and dangerous.”

How Important is all this?
What I’m talking about here is probably the most important aspect of trading. If you can control your emotions during trades, you have a good chance of success. If you can’t, you’ll almost certainly fail.

Quick Thinking

Christian Siva-Jothy was Head of Proprietary Trading with Goldman Sachs. (Prop trading is when firms trade for themselves rather than on behalf of customers for fees.)

Siva-Jothy made his name on seemingly high-risk trades he made in the immediate wake of the first airliner crash into the World Trade Center in 2001.

“The first thing I noticed on the TV was that it was a perfectly clear blue sky day. I’m a helicopter pilot and I’ve been flying for 14 years. I know that when you’ve got a plane that’s going down, you don’t aim for the tallest building to fly into.

“I immediately thought, ‘terrorist act’. I figured this was going to whack consumer sentiment… I bought Eurodollars…

Markets can be Unbelievably Slow to React

“Strangely, I think they rallied no more than 13 basis points on the day. Markets can be unbelievably slow to figure out the consequences of big events.”

The capacity of markets to react slowly to events was also noted by Jesse Livermore, who said:

“The Street paid no attention to the earthquake the first day or two. They’ll tell you that it was because the first dispatches were not so alarming, but I think it was because it took so long to change the point of view of the public toward the securities markets. Even the professional traders for the most part were slow and shortsighted.”

Christian Siva-Jothy’s Favorite Book – Reminiscences of a Stock Operator

Interestingly enough, it turns out that Christian Siva-Jothy is well acquainted with Jesse Livermore. When asked – by Steven Drobny, in The House of Money – “Are there any books that you recommend to your traders,” Siva-Jothy responded:

“My favorite book in relation to markets is Reminiscences of a Stock Operator, by Edwin Lefèvre. I’ve probably read it four or five times, and I love it every time I read it. He talks about everything, about risk, about hubris, about passion, everything.”

I thought I’d make a quick post to commemorate the fact that it’s 130 years since Jesse Livermore was born.

Although his family might have given him birthday presents, Jesse Livermore never expected the stock market to be so generous. He said:

“I could build a huge hospital with the birthday presents that the tight-fisted stock market has refused to pay for.”

He wasn’t speaking only of himself. He was expressing his concern for people who trade with a view to buying something nice with trading profits.

“In fact, of all hoodoos in Wall Street I think the resolve to induce the stock market to act as a fairy godmother is the busiest and most persistent.

“There isn’t a man in Wall Street who has not lost money trying to make the market pay for an automobile or a bracelet or a motor boat or a painting.

“Like all well-authenticated hoodoos this has its reason for being. What does a man do when he sets out to make the stock market pay for a sudden need? Why, he merely hopes. He gambles. He therefore runs much greater risks than he would if he were speculating intelligently, in accordance with opinions or beliefs logically arrived at after a dispassionate study of underlying conditions.

“To begin with, he is after an immediate profit. He cannot afford to wait. The market must be nice to him at once if at all. He flatters himself that he is not asking more than to place an even-money bet. Because he is prepared to run quick—say, stop his loss at two points when all he hopes to make is two points—he hugs the fallacy that he is merely taking a fifty-fifty chance. Why, I’ve known men to lose thousands of dollars on such trades, particularly on purchases made at the height of a bull market just before a moderate reaction. It certainly is no way to trade.”

Happy Birthday Jesse

Jesse Livermore was one of the world’s most famous (or infamous) stock traders.

Now, almost 80 years after his fame peaked, many people still regard him as one of the greatest stock traders ever. With this in mind, here are some ways of assessing how deeply you’ve come under the influence of Jesse Livermore.

You know you’re under Jesse Livermore’s spell when:

• You tell anyone who’ll listen that “there is nothing new in Wall Street”.
• You forget everything you’ve ever learned about position sizing and put all of your own money (and ten times more from your broker) into a single trade.
• You tell people, “never argue with the tape”.
• You tell your (male) children to keep their cash close to their balls and never let anyone near it.
• You start talking about the size of the line you’re swinging.
• You have your best ideas while big-game fishing off the coast of Florida.
• You often begin sentences with the words “There I was…”
  • “There I was, once more broke, which was bad, and dead wrong in my trading, which was a sight worse.”
  • “There I was, short five thousand shares of Union Pacific on a hunch.”
  • “There I was on the morning of May ninth with nearly fifty thousand dollars in cash and no stocks.”

You know your wife’s under Livermore’s spell when:

• She starts paraphrasing his famous dictum “A stock can never be priced too high to buy” – but replaces “stock” with “necklace”, “shoes”, “dress”, “designer kitchen”, “bathroom suite”, or “vacation”.
• She repeatedly tells you, “there is nothing new in Wall Street my wardrobe”.
• She forgets everything you’ve ever told her about position sizing and puts all of your money (and ten times more from your bank) into her dream house.
• She tells you, “never argue with the tape me”.
• She often begins sentences with the words “There I was…”
  • “There I was, embarrassed because everyone else was better dressed than I was.”
  • “There I was, the only one not having an overseas vacation this year.”
  • “There I was, the only one whose husband hadn’t come too.”

Long term investors – Warren Buffett is the best-known example – prefer to leave their money in the markets to reap the rewards of compounding.

Jesse Livermore – a trader – thought this was unwise. His opinion was that, after a successful trade, traders “should make it a rule to take one-half of the profits and lock this sum up in a safe deposit box.”

In How To Trade In Stocks Jesse Livermore describes how he was staying in Palm Beach after a highly successful trade. He requested the telegraph operator to tell his broker in New York to deposit one million dollars from the trade into his bank account. After sending the message, the operator asked if he could keep the slip. Why? Livermore asked. The operator replied:

“I’ve been an operator here in Palm Beach for twenty years and that was the first message I’ve ever sent asking a broker to deposit money in a bank account of a customer.

“I’ve seen thousands and thousands of messages passing over the wire from brokers demanding margins from customers. But never before one like yours.”

What Wall Street Giveth, It Taketh Back

Edwin Lefèvre, near the end of Reminiscences of a Stock Operator, said prophetically:

“My study of the history of Wall Street justifies a belief that the same ticker which giveth also taketh away. The only kings that were not ignominiously dethroned were those who abdicated in time and ran away from the danger of destitution.

“And then I thought of other kings for a day. Men who were the leaders of the market after beating the game for millions were eventually beaten by the game in the end.”

Too Negative?

I’m not trying to be negative here – just realistic. If you’ve been taking big profits out of the market, put some of them aside occasionally to build tangible assets, like real estate.

Although cold, mathematical logic dictates that a successful trader should usually keep as much money as possible in the market, history gives another perspective – the perspective of traders who were once successful bankrupting themselves. Who’s to say we won’t suffer this fate? Turning some of our trading profits into tangible assets might not help us become kings of Wall Street – but we might make the grade as princes – and it should stop us sinking to the status of paupers.

Jesse Livermore wrote:

“Analyze in your own mind the effect, marketwise, that a certain piece of news may have… Try to anticipate the psychological effect of this particular item on the market. If you believe it’s likely to have a definite bullish or bearish effect, don’t back your judgement UNTIL THE ACTION OF THE MARKET ITSELF CONFIRMS YOUR OPINION.”

How can we apply Jesse’s thoughts in today’s markets?

When looking for trades, two questions to ask are:

• Is there a good underlying story to engage the interest of other investors or traders?
• Can I see the potential for a big price move?

The two issues are, more often than not, related.

After the market has “given its approval” for a trade, you may buy into the early stages of a trend, hoping that the trend will be solid enough to last for months – or even years. You can also hope the slope of the trend will be rewarding. If the slope is too shallow, you might ride the trend successfully, but make less money than if you’d picked a better trend.

The “story” behind the trade is an important one – because if the story is good enough, it can carry a trend for longer and take it to greater heights than is financially logical. In this context, probably the biggest story in recent years was the dotcom boom of the late 1990s.

The tech industry had a good story to tell and people bought into the story – that the internet was going to take over the world within a few years and bricks and mortar businesses were finished. You can see the impact of this “story” in the first half of graph I’ve pulled from Yahoo Finance comparing the NASDAQ with the S&P 500 at the time.

Performance NASDAQ v S&P 500 November 1998 – June 2001

What about the “Story”?
Buying into the dotcom/NASDAQ story and trend in 1998, or even 1999, and getting out when the trend broke, made a lot more money than buying the S&P 500 – whose “story” was weaker.

Of course, after the NASDAQ uptrend had broken, the big “story” was that the dotcoms were nearly all losing money – and even the ones making money had p/e ratios in the hundreds. The uptrend was over. The story was negative. The dotcoms’ fundamentals were appalling – it was time to sell short and double the profit you’d made on the way up.

Summing Up
When you’re trading, the “story” can be more important than the fundamentals.

Having just added a post about Edward Jerome Dies’ book Street Of Adventure, I thought I’d finish writing about him by reproducing the preface he wrote for Livermore’s How To Trade In Stocks – The Livermore Formula for Combining Time Element and Price.

Dies’ preface from 1940 is as follows:

The career of Jesse L. Livermore is a bright patch in the pattern of speculation. He has been in the public eye as a stock-market factor almost continuously since as a youth he flashed like a comet across the speculative skies and became known as the millionaire Boy Plunger.

He has indeed been a plunger, and on rare occasions the magnitude of his operations cause The Street to blink in wonderment. Yet blind chance never entered into his market sallies. Each move was touched with singular genius, buttressed by endless research and the dogged patience of Griselda.

For forty years Jesse Livermore has studied world and domestic economic conditions with almost fanatic intensity. In the same four decades he has studied, talked, dreamed, lived with, and traded in the speculative markets. His world has been the movement of prices; his science the correct anticipation of such movements.

It has been my privilege to know personally some of the great speculators of our times and to observe at close range their fascination activities. For intellectual scope and for natural aptitude I regard Jesse Livermore as the greatest speculator and market analyst since the turn of the century. In one of my books I made the statement that he could be shorn of every dollar, given a small brokerage credit, locked in a room with several tickers, and in the course of a few market months he could emerge with a new fortune. Such is the mark of his genius.

He created his first sensation when he was fifteen years old. His mother was the party most surprised, for he dumped into he lap a thousand dollars in five dollar bills, his first gleanings from the stock market.

He created his next sensation by completing four years of mathematics in a single year while holding a job as a board marker in a brokerage house.

He has been creating market sensations ever since and to those interested in the science of speculations this little book, if not a sensation, is at least a surprising departure.

The reason is obvious. Every great speculator has his own method of operation, his own course of study for arriving at conclusions upon which he is willing to risk vast sums of money. Such methods are guarded like state secrets, sometimes through vanity or suspicion, but more often for very practical reasons.

So when Jesse Livermore, with characteristic frankness, draws back the curtain and reveals publicly his rules for combining time element and prices he takes the spotlight for audacity among the top-flight speculators of the age. He lays before the reader the fruits of forty years of speculative study.

It is a new chapter in the colorful saga of a brilliant operator.

In 1940, Edward Jerome Dies wrote the preface to Jesse Livermore’s How to Trade in Stocks.

Five years earlier Dies had written Street of Adventure examining the careers of fourteen of Wall Street’s biggest names, including Jesse Livermore, who Dies described as a “daring genius”.

From its preface, Street of Adventure looks like an interesting read:

“Swiftly and with deft strokes Mr. Dies etches the lives of fourteen colorful characters – great and near great – actors in the quick drama of western finance.…

We watch the rise and fall of the incredible Insull, and the blink at the collapse of his cyclonian empire. We see the dauntless Alexander Legge battle with Hoover millions to stem the onrush of economic ruin.

Through the pages strut such almost legendary figures as Bet-a-million Gates, Joe Leiter, and Doc Crawford… contrasted by the calm capitalist speculators, Patten and Cutten, and the daring geniuses, Howell, Livermore and others.

Here is vivid history and biography with the sweep of fiction – dramatic tales from la Salle Street, the western powerhouse of finance, the street of adventure.”

Edward Jerome Dies went on to write further investment related books including Behind the Wall Street Curtain and The Plunger, a Tale of the Wheat Pit.

If you’re looking to buy a copy of Street of Adventure, it won’t come cheap.

I noticed Global Investor is selling a rare first edition (poor condition) for UK£475 (US$950).

The only other copy I found available on the net (and from which I’ve borrowed the picture of the book’s cover shown above) – Rare List – was in much better condition and was selling for US$7,500 (negotiable).

I noticed an article in The Economist the other day reviewing a collection of trading books and publications that’s on the market for $738,000.

It’s a 700 volume collection compiled by Christopher Dennistoun, a British antiquarian book dealer and part-time stock trader. Dennistoun spent 30 years collecting works about the history of the stock market and trading.

Naturally Jesse Livermore’s career occupies part of Dennistoun’s huge compilation, as does the career of Livermore’s lesser-known rival – Arthur Cutten. Cutten, although lesser-known than Livermore, was not a lesser trader. In 1925 Cutten was believed to have taken as much as $15m profit from trading wheat and he was undoubtedly America’s most important commodities trader during the 1920s.

The Economist comments that Cutten’s biography “The Story of a Speculator”, which he had privately printed in 1936, has to be the world’s driest attempt at autobiography. “I like to make money,” Cutten begins. “I have made it because I like to make it.”

When, like Livermore, Cutten was criticized for making a living through speculation. Cutten responded:

“Who other than the speculators are going to assume the necessary risks of commerce which cannot and should not be borne entirely by the merchants? Do not tell yourselves that we can dispense with these risks. They are part of existence on earth.”

Despite his being a contemporary of Livermore, Cutten is not mentioned in Reminiscences of a Stock Operator. He did, however, make the front cover of Time Magazine – as shown above. Here’s an article about Cutten printed by Time in 1932.

February 1907 – exactly one century ago – was an exciting year for Jesse Livermore. In 1906, he had hit the big time – profiting by over a quarter million dollars – by shorting the market just before the San Francisco earthquake. It was at about this time that Livermore consciously began changing his trading style. He decided that the key to success lay in studying the market as a whole rather than in following individual stocks. According to Reminiscences of a Stock Operator, he said:

“I began to see more clearly—perhaps I should say more maturely—that since the entire list moves in accordance with the main current… Obviously the thing to do was to be bullish in a bull market and bearish in a bear market. Sounds silly, doesn’t it? But I had to grasp that general principle firmly before I saw that to put it into practice really meant to anticipate probabilities. It took me a long time to learn to trade on those lines.

“I studied the situation in 1906 and I thought that the money outlook was particularly serious… It was good hard cash that went up in cannon smoke in the Boer War, and the millions spent for feeding nonproducing soldiers in South Africa meant no help from British investors as in the past. Also, the earthquake and the fire in San Francisco and other disasters touched everybody… I figured that nothing could stave off one peach of a smash. Such being the case there was but one thing to do – sell stocks!”

Unfortunately for Livermore, every time he began to sell stocks, the market rallied. Bit by bit, the money he gained from shorting the market in 1906 was lost. Convinced that the market should fall, he continued taking short positions, only to lose. Before long, he was cleaned out. He commented:

“That is how I came to learn that even when one is properly bearish at the very beginning of a bear market it is well not to begin selling in bulk until there is no danger of the engine back-firing.”

Despite Livermore’s losses, his broker was willing to extend him credit – Livermore was one of his most profitable customers. Then Livermore saw something that further convinced him that the market was truly going to collapse. The Northern Pacific and Great Northern announced new issues of stock. They did it in a way Livermore had not seen before. They were going to allow buyers to pay by installments. This, concluded Livermore, meant the financiers didn’t think there was enough money in the markets to absorb the stock issues.

Livermore explained this reasoning to his broker, who extended him the financial backing he needed to begin shorting the market.

“I profited by my earlier and costly mistakes and sold more intelligently. My reputation and my credit were reestablished In a jiffy. That is the beauty of being right in a broker’s office, whether by accident or not. But this time I was cold-bloodedly right, not because of a hunch or from skilful reading of the tape, but as the result of my analysis of conditions affecting the stock market in general. I wasn’t guessing. I was anticipating the inevitable. It did not call for any courage to sell stocks. I simply could not see anything but lower prices, and I had to act on it, didn’t I? What else could I do?”

One by one, the stocks that Livermore had shorted began falling and, before long, all were falling.

“I had a wonderful time after that, and in February of 1907 I cleaned up… I went to Florida. I love fishing and I needed a rest. I could get both down there.”

Sounds to me like a nice way to spend February.

It’s interesting to see today’s writers still referencing Jesse Livermore.

Nils Pratley, writing in January’s Guardian quoted Livermore:

“Being wrong is acceptable; staying wrong is unacceptable.”

Nils’ article was entitled “My tip is don’t take tipping seriously“. Of course, this was one of Livermore’s favorite themes. Having been badly stung acting on a tip from Ed Harding; Livermore established it as one of his cardinal rules that he would never again act on anyone else’s stock tips.

On January 29, Jesse gets another mention – albeit a misinterpretation – in an article entitled Value Investing, Patience and Shakespeare.

“It was never my thinking that made big money for me. It was my sitting tight.”

The author believes the above quote from Livermore helps support the view “that it is time in the market that reaps substantial returns, not timing”. Of course, Livermore’s stock strategy relied entirely on timing. When he talked about sitting tight, he meant sitting tight until the bull market was over – then you need to sell. Here are some thoughts from Livermore about sitting tight:

“In a bull market your game is to buy and hold until you believe that the bull market is near its end. To do this you must study general conditions and not tips or special factors affecting individual stocks. Then get out of all your stocks; get out for keeps! Wait until you see—or if you prefer, until you think you see—the turn of the market; the beginning of a reversal of general conditions. You have to use your brains and your vision to do this; otherwise my advice would be as idiotic as to tell you to buy cheap and sell dear. One of the most helpful things that anybody can learn is to give up trying to catch the last eighth—or the first. These two are the most expensive eighths in the world. They have cost stock traders, in the aggregate, enough millions of dollars to build a concrete highway across the continent.”

Jesse also gets a couple of mentions in an article entitled US Housing Slump Continues. He is quoted:

“In a bull market and particularly in booms the public at first makes money which it later loses simply by overstaying the bull market.”

Jas Jains, the author, concludes his article, in finest Livermore style, “Not much has changed in hundred years, or hundreds of years. The bubbles expose the suckers among us! And Silly.con Valley is overflowing with them. It would prove to be a fine example of Easy Come Easy Go.”

I thought it was about time that I got myself a new copy of Reminiscences of a Stock Operator. I splashed out on the hardback version (first published in 2005) which includes the “classic artwork as it appeared in the Saturday Evening Post” in the 1920s. I haven’t been disappointed.

It’s physically a big book – about 9 x 11 inches. This means the artwork can be reproduced without loss of detail. You can click on the image of the bear above to get more detail. This cartoon is one of my favorites, showing a starving bear emerging from hibernation. (Livermore had a reputation as a perennial bear. Although the reputation isn’t wholly justified, his biggest triumphs tended to be on the short side of the market.) There are several other equally good cartoons throughout the book, none of which fails to raise a smile. I’ve not reproduced my number 1 favorite cartoon here though. If you get a copy of the book yourself, you can guess which one it might be.

Each of the 12 chapters of this new edition features an introduction from Charles Geisst, the financial historian. These are worthwhile additions, setting Livermore’s activities in their historical context. Details of trading in Livermore’s time – such as the legality of insider dealing (it was legal and rife) and the role of bucket shops are also set out to help new readers.

If you haven’t yet bought Reminiscences of a Stock Operator, and you’re happy to buy a larger sized book, this edition is definitely the one I’d recommend.

While I was reviewing my finances earlier this evening, I got to wonder what Jesse Livermore would be doing if he were alive today. Would he be using the trading strategies that worked for him in the first part of the 20th century? Would he be trading stocks and commodities? Or would he be trading options or CFDs or some other derivative?

The answer to the first question is, I think, straightforward. Livermore’s opinion was that:

“There is nothing new in 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”.

Today’s speculators, driven by the same emotions of greed and fear that drove their counterparts one hundred years ago, leave the same telltale traces in the price and volume action of whatever they are trading. Livermore would be looking for the familiar patterns and, when he was sure he had seen a familiar one, he would trade it.

Of course, he wouldn’t be reading a ticker tape for price and volume action; he would be reading it on his screen. It’s quite likely also that he’d be trading from home. Livermore, although sociable outside market hours, was a silent loner while trading. The prospect of sitting alone, trading quietly from his study would surely have attracted the great man. He would still be reading the numbers directly for indications of market direction. Charting was fashionable when Livermore was trading but he chose not to use it. He said he was better able to interpret prices and volumes when they came as numbers rather than plotted on a chart.

Jesse Livermore traded with high leverage. When the market moved, he wanted to ensure his gains were worthwhile. If he were going to trade stocks and commodities today, he would certainly be using high leverage methods.

The biggest commodity markets today are the forex markets. For traders of any consequence today, margin rates of 1 percent are available on the forex markets – in other words you put in $1 to buy $100 worth of currency – so I suspect Jesse would be trading the forex exchanges heavily. He liked to buy strength and sell weakness, so he would have been shorting the US dollar for some time.

In terms of the stock market, the US indices have lost their momentum at the moment, which means Jesse would be sitting on the sidelines, waiting for a breakout.

On a site dedicated to Jesse Livermore, you would expect nothing but praise for the man. There are however, significant question marks over Jesse Livermore’s trading record. He bankrupted himself more than once during his career. Then, having made one of the biggest inflation adjusted stock-market coups in history shorting the markets in 1929, he had lost it all by 1934.

Reasonable observers – for the sake of argument I shall include myself in this group – would not try to claim that Livermore was a flawless trader. Livermore is, however, remembered, while most of his trading contemporaries are long forgotten.

Livermore’s continuing fame arises from several significant factors:

• Livermore was a skilled reader of the now defunct ticker tape. In more modern terms, we would say that he was skilled in using price/volume data to predict where a stock’s price was heading.
• Not only did he read the tape successfully, amazingly he told the public how he did it. Trading concepts that we now call support, resistance and momentum can be cleary identified from Livermore’s work.
• In a series of interviews with Edwin Lefèvre, Livermore gave an electrifying insight into both his life as a self-made stock-market trader and his trading methods. The idea of giving up the day job and making a living on the markets is as attractive now as it was in Livermore’s day.
• Livermore stayed in the public eye when, in 1935, following a drunken argument, his ex-wife shot and injured Livermore’s oldest son Jesse Jr.
• Livermore successfully sold the idea to small time traders that they should ride their winners and sell their losers. Although many of them failed to heed his advice for psychological reasons (and continue to fail today, for the same reasons,) even the least educated of today’s traders are aware of this powerful method.
• Livermore lost one of the largest personal fortunes in history. Everything he had taken from the stock-market, he gave back. In the end, just like the bit-players, he failed to obey his own favorite rule – sell your losing trades.

Despite the question marks over his career, even today a trader can make money in the markets using Livermore’s methods. Many of today’s trading gurus – such as Martin Zweig and Alexander Elder – owe a debt to Jesse Livermore for the methods they either use or publicize. There is no other figure in the history of the markets whose methods continue to figure so strongly in market trading than Jesse Livermore’s.