Teresa Lo, founder of InvivoAnalytics, retired from the securities industry in 1998 after a twelve-year career. Since then, she has helped thousands of individual investors, traders and investment advisors achieve their goals and secure their financial futures. She is currently the portfolio manager for a private investment fund. You can find out more by visiting invivoanalytics.com.
We found this particular reference piece written by Ms. Lo to be an excellent set of rules for investing.
I've [Teresa Lo] been working on this post for a long time, and might come back to edit the rules on this page from time to time.
1. TEMPERAMENT TRUMPS INTELLIGENCE
You don't have to be a rocket scientist to succeed. It's a certain combination of intelligence and personal qualities.
Success in investing doesn't correlate with IQ once you're above the level of 25. Once you have ordinary intelligent, what you need is the temperment to control the urges that get other people in trouble investing. - Warren Buffett, The Real Warren Buffett
Staying the course requires a certain stoicism and balance:
From Maximus I learned self-government, and not to be led aside by anything; and cheerfulness in all circumstances, as well as in illness; and a just admixture in the moral character of sweetness and dignity, and to do what was set before me without complaining. I observed that everybody believed that he thought as he spoke, and that in all that he did he never had any bad intention; and he never showed amazement and surprise, and was never in a hurry, and never put off doing a thing, nor was perplexed nor dejected, nor did he ever laugh to disguise his vexation, nor, on the other hand, was he ever passionate or suspicious. He was accustomed to do acts of beneficence, and was ready to forgive, and was free from all falsehood; and he presented the appearance of a man who could not be diverted from right rather than of a man who had been improved. I observed, too, that no man could ever think that he was despised by Maximus, or ever venture to think himself a better man. He had also the art of being humorous in an agreeable way. - Marcus Aurelius, The Meditations of Marcus Aurelius, Book One
2. NEVER LOSE MONEY
This one is simple enough:
Rule No. 1: Never lose money. Rule No. 2: Never forget rule No. 1 - Warren Buffett, The Real Warren Buffett
3. WHERE THERE'S SMOKE, THERE'S FIRE
Another obvious one:
I follow the old dictum: There's never just one cockroach in the kitchen. - Warren Buffett
4. DIVERSIFY, DIVERSIFY, DIVERSIFY
They all say they do, but no one ever does. Then they are sorry:
You have to diversify against the collective ignorance. I think nobody is in a position to react to these big macro-issues. Where is the dollar going to be or what is G.D.P. growth going to be in China? For every smart person on one side of the question, there is another smart person on the other side." - David F. Swensen
5. PERCEPTION IS EVERYTHING
Refuse to become intellectually bankrupt. Avoid dogma:
Facts per se can neither prove nor refute anything. Everything is decided by the interpretation and explanation of the facts, by the ideas and the theories. - Ludwig von Mises
Have the courage to see the world as it is:
The glass is not half-full or half-empty. It's just a half glass. - Teresa Lo
6. THE PARTY ALWAYS ENDS SOONER THAN YOU THINK
Dance close to a working fire exit at the end of the night:
The one eternal aspect of every market top is that it occurs before we're ready for it. - Justin Mamis, The Philosophy of Tops
7. FOLLOW THE LEMMINGS
When the lead lemming disappears from view, assume he's fallen over the cliff:
8. THE MARKET IS A BEAUTY CONTEST (or Why High School Never Ends)
John Maynard Keynes had opinions on issues other than deficit spending:
9. IT'S NEVER DIFFERENT THIS TIME
No matter what they say, don't believe ‘em:
Stock prices have reached what looks like a permanently high plateau. - Irving Fisher, 1929
It's always the same shit, different day:
What is badness? It is that which thou hast often seen. And on the occasion of everything which happens keep this in mind, that it is that which thou hast often seen. Everywhere up and down thou wilt find the same things, with which the old histories are filled, those of the middle ages and those of our own day; with which cities and houses are filled now. There is nothing new: all things are both familiar and short-lived. - Marcus Aurelius, The Meditations of Marcus Aurelius, Book Seven
10. HOPE IS A FOUR-LETTER WORD
How many accounts have gone to zero because the investor was too stubborn to do the right thing?
The market can stay irrational longer than you can remain solvent." - attributed to John Maynard Keynes
11. INVESTING IS ANOTHER TERM FOR TRADING
It's just a different time frame:
Thus the professional investor is forced to concern himself with the anticipation of impending changes, in the news or in the atmosphere, of the kind by which experience shows that the mass psychology of the market is most influenced. . . . The social object of skilled investment should be to defeat the dark forces of time and ignorance which envelop our future. The actual, private object of the most skilled investment to-day is "to beat the gun", as the Americans so well express it, to outwit the crowd, and to pass the bad, or depreciating, half-crown to the other fellow. - John Maynard Keynes, The General Theory of Employment, Interest and Money, Chapter 12
10. LEVERAGE IS A BLACK HOLE
Not even light can escape it:
We've got to think harder about all the embedded leverage. I mean, it's a little shocking that not more people understood that if you take a 30:1 levered, structured product and you put it on a 30:1 levered balance sheet, you're not talking about 30:1 leverage. You're talking about 900:1 leverage and you can magnify gains and losses pretty dramatically when you do that. So the risk management system, the capital rules just haven't kept up with the instrument innovations-another decade has gone by. - Peter Fisher
Ten Rules for Trader Longevity
This list is for traders but also applies to investors.
1. Recognize mental blocks. If you believe that the financial markets are rigged, stay away. Bias is blinding. If your ego requires constant feeding and vindication, do not trade. If being right is more important than making money, steer clear of the stock market. If you must be dogmatic, direct your energy into following these rules.
2. There is no needle in the haystack. There's no reliable way of picking a single winner from the thousands of stocks listed on the exchanges. Resist betting it all on the longshot because the outcome is based purely on luck. Dr. Ziemba explains the mathematics of horse racing. The point is that the bettor is better off with horses that finish the race "in the money". They don't have to come in first.
3. Diversify. Spread your bets around. It's the only way to be on board the winner.
4. Trade small. Bet only a small fraction of your equity on each position. You must take risk to get reward, but ruin is certain if you take insane risk. It's defined in Fortune's Formula. Think Adventures in Conditional Probability.
5. Press the winners. You must compound a winning streak.
6. Never throw in good money after bad. Never double down. Ever.
7. Do not rationalize. Down is NOT up. Red is NOT the new black. If the account equity is shrinking, your bets are in the wrong direction.
8. Establish a stop loss. Place it in the appropriate location (except just above the swing high or under the swing low where everyone else put theirs), a place where you can be statistically confident that the move in the present direction is over. Don't use a tight stop for lack of equity. The market doesn't care about how much is in your account, so trade a smaller position size and put the stop in the proper place.
9. Use the stop loss. Just do it. Immediately. No excuses. Having a "mental" stop loss is the same as lying. There's no point, because the longer you let it slide, the deeper the doo-doo.
10. Observe Rule Nine. Always. Don't go to the bathroom without it.
The Role of Luck
Legendary hedge fund manager Jim Simons was interviewed by Hal Lux for the November 2000 issue of Institutional Investor:
When he does open up, Simons can seem exasperatingly coy in describing his success. "Luck," he told a gathering of potential investors last spring in Greenwich, Connecticut, "is largely responsible for my reputation for genius. I don't walk into the office in the morning and say, ‘Am I smart today?' I walk in and wonder, ‘Am I lucky today?'"
In fact, Simons is being straightforward. Luck may be the residue of design to baseball minds, but to a mathematician it's the twin of probability, which can be approached through statistical studies.
Last, but not least, my hero, the Roman emperor Marcus Aurelius thanked the gods, "that, when I had an inclination to philosophy, I did not fall into the hands of any sophist, and that I did not waste my time on writers of histories, or in the resolution of syllogisms, or occupy myself about the investigation of appearances in the heavens; for all these things require the help of the gods and fortune."
While he was certainly not referring to the stock market but he might as well have for he summed it up well. Very well.
