The Chairman Victor Niederhoffer     About Victor Niederhoffer ©2005 All content on site protected by copyright

1/5/2006
Let's Vary Piracy with a Little Burglary

Come, friends, who plow the markets
Truce to speculation, take another relation
Let's vary piracy with a little burglary

10 burglary tips for speculators

1. Track Records. Don't take them at face value. They often contain great rates of return. Often these are made with great results at the beginning with small amounts of money and house-generated trades. Pay strict attention to inflows and outflows. Often the "manager" can show 30% a year returns and still lose dollars overall. Beware especially of funds where the managers end up owning a large proportion of the assets. The only constant is fees, and that's the explanation. Same goes for the Sharpe ratio. A good rule of thumb: the higher the past Sharpe, the worse the subsequent expectation. Remember, the only way to get a high Sharpe is by Martingaling it. That's what casinos love. The only one who can grind is the house.
2. Protect the entry. Just as many doors are hollow and easy prey for burglars, many entries are based on ephemeral factors with no foundation. Have a reason for all trades. Secure the trade with adequate capital so that a dealer will not be able to squeeze you out of your position without undue hardship. Remember that most squeezes are opportunistic: They follow the rule of least effort. If you're an easy target, with inadequate margin, a fixed time to get out -- "beware, oh you day traders" -- they'll squeeze you without even having to force the entry.
3. Have adequate escape routes. You don't want to confront the enemy head on. He might be young and nervous and create a life-threatening situation. Be flexible in how you can get out. Never get cornered with just one way of getting out as this could lead to disaster. If it doesn't go your way in the expected time, will it still be good? If not, do get out.
4. Viewing. Try to figure out who's on the other side of the door or trade. If you're trading with a bank for example, with foreign exchange do realize they make about $100 billion a year on their trades. Are you really that much smarter than they are? Of course not. Is there really going to be that much money left for you to profit from the total pool after they take theirs out? Same goes for the guys named "Doc" among the handful who still trade commodities such as rice or flax. They've been around for 75 years each, on average. In a zero-sum game, who's more likely to end up the winner? Think of the survival test popularized by Stigler, which shows that the most efficient companies and individuals are those who are most numerous and live the longest. Much better to trade on the opposite side of the ephemeral traders, the public, who invariably lose money.
5. Vary your routines. Be sure to specinvest at different times of the day. Your adversaries are like crocodiles: They remember what you did last time, and they're not going to let you get away twice. Neither always a buyer or a seller be, except in markets where there's a drift.
6. Don't leave clues. Don't leave newspapers or trade slips around that tell the adversary what you're going to do. Never telegraph the other side that you are a buyer or seller before entering the trade. And whatever you do, make sure that your positions are fungible so you can get out with any other counterparty -- not the original one you have the position on with, like you have to do most of the time in foreign exchange or options where the other sides know what your positions are at all times. Just as it's good to have neighbor park in your driveway when you're away, it's good to place other trades through your account so that the other side won't know at all times which way you're going and what you're planning to do.
7. Create the illusion of security. Always remember that the adversary is guided by opportunism and least effort. If he thinks just a few ticks or few million bucks will cause you to exit, or be tripped on such things as a barrier option, you're gone. Send money to the clearing firms promptly, and always take the calls of your counterparties even when you're in the hole, of they'll know you're on a trip to ruin.
8. Keep a routine mien. Just as the homeowner should always keep some shades and blinds up, the specinvestor should always have a semblance of activity even when petrified with a terrible position. Call for a quote in normal everyday routine. And whatever you do, never leave a message on your answering machine that you're out of town (or can't meet a call).
9. Lock the door to attached trades. A cascading series of losses can do you in just as surely as poor security on your main positions. I heard of a trader who could have made a fortune on options and U.S. stocks in 1997 if he hadn't been hit with a cascading loss when the enemy broke into his positions in southeast Asia. Burglars often enter through garages; the positions you're not as concerned about are much worse secured than the main ones.
10. What to do after the burglary. No matter what I say, let's face it: We are going to be victimized. After the specdectomy has occurred, don't rush right back into the market. The adversary might still be there. And they are better armed and prepared than you. Once burned is enough. Take a break. Go to a neighboring house and call the Specbusters for advice.

J.T. Holley comments:

One of the greatest tricks the devil plays is convincing everybody he doesn't exist. Think of the guy who robs you, knows he's taken from you, then devotes time afterward to trying to "help" you find what you've thought you lost. While in college in dormitories I was victimized a couple of times with CDs, bikes and such coming up missing. I always suspected the guys who were overly sympathetic and "Johnny on the Spot" to help me look for what I thought I lost. They really do come back to the scene of the crime! I imagine they do in markets as well. I've been set up in poker games by more skillful players using the same principle. They don't take me down with "one big theft," they take the chips over and over before I know I've been robbed -- sucked in on emotions thinking the pot owes me something.

One suggestion that was handed down to me, of course after the fact, is to photocopy all the contents of your wallet. Make copies of debit cards, credit cards, driver's license and such. Once you've been robbed, then you have an immediate record to go back and start calling all accounts to inform them of the mishap. I learned the hard way after being mugged in New Orleans after, ironically, getting directions from a police officer on horseback.

More writings by Victor Niederhoffer