Reminiscences of a Stock Operator

The Life of Jesse Livermore

Book by Edwin Lefevre

Article and Review by GlobalMacroForex

This book covers the life of the legendary trader Jesse Livermore in the early 1900 century.  Jesse Livermore started out as just a boy in bucket shops, which are no longer legal in the United States. Bucket shops bet on the prices of stocks without actually placing an order on the exchange.  This enabled people who could not afford the full commission to still trade, as well as use large leverage, without borrowing and paying interest rates.

From this humble youthful start, Livermore became nationally famous for making and then losing many millions of dollars, as well as for short selling during extreme market crashes like 1907 and 1929.  While the book is set up in a fictional way, it covers Livermore’s real-life events and has lots of amazing trading advice.  In this brief short summary, we’ll cover topics including:

·      Patience and Sitting

·      Catching the Big Swings

·      Scaling and Limits

·      Trust yourself

·      Watch for Changes in Circumstances

·      Breakouts

·      Bubbles

Our journey begins with…

Patience and Sitting

Livermore teaches us the importance of having patience.  He calls it learning to sit.

 “After spending many years in Wall Street and after making and losing millions of dollars I want to tell you this: It never was my thinking that made the big money for me.  It always was my sitting.  Got that?  My sitting tight!  It is no trick at all to be right on the market.  You always find lots of early bulls in bull markets and early bears in bear markets.  I’ve know many men who were right at exactly the right time and began buying or selling stocks when prices were at the very level which should show the greatest profit.  And their experience invariably matched mine-that is, they made no real money out of it.  Men who can both be right and sit tight are uncommon.”

Livermore teaches us that you can’t trade for a quick profit where you need the money right away because it compromises your decision making.  He gives the example of a sick family member that needed him to lend money.  So he tried to get the money out of the stock market and lost it all.

“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.”

Catching the Big Swings

According to Livermore, one of the most important aspects of trading is to catch the big swings and not the tiny fluctuations.

“It is the big swing that makes the big money for you.”

He points out how traders don’t have to try to catch the exact turning point.  A trader does not need to buy the exact bottom or top.

“One of the most helpful things that anybody can learn is to give up trying to catch the last eight-or the first.  These two are the most expensive eighths in the world.”

Instead, he says the key is to get out early and sell after the reversal has already started.

Scaling and Limits

Livermore tells us the importance of scaling into trades that are moving with the market.  You put a little bit of money out first and it should be moving in your direction.  Then you keep adding to your position as it is working in your favor.  He warns traders not to keep buying or selling if the trades are losing. 

This is why he advises traders not to do limit orders.  If the market is moving in the direction you think, limit orders will make you miss your own correct prediction.  As you’re scaling into your trades, it’s okay that it’s going up in price.  His experience with limit orders comes from his own previous childhood experience in the bucket shops, where he was often receiving delayed quotes on the bucket shop board and therefore missed trends.

Trust yourself

Livermore teaches traders the importance of trusting your own intuitions and not listening to others. 

“I cannot fear to be wrong because I never think I am wrong until I am proved wrong.”

He says the real enemy is from within; you have to believe in yourself or you can’t make money.  It’s fear that keeps traders from making as much as they should, as most inexperienced or emotional investors try to take profits out of fear of losing them.  On the other hand, they stay in losing trades too long hoping it will reverse.  You never want to hang on to a loser just “hoping” that the move against you will end. 

Livermore stresses the importance of trading off your own information.

“It cost me millions to learn that another dangerous enemy to a trader is his susceptibility to the urgings of a magnetic personality when plausibly expressed by a brilliant mind.”

Watch for Changes in Circumstances

One strategy that’s taught in this book is watching closely for a change in conditions or terms that signals something new.  Livermore gives the example of Northern Pacific and Great Northern railroads were selling stock to people using installment plans.  These plans allowed investors to pay over a period of time through credit instead of an upfront share purchase.

Livermore noted that this was something new and that previously was not happening.  He figured the reason the railroads changed their policy was that money to bid it up was in short supply.  And with Great Northern selling at $330, he thought it was sky-high and ready for a reversal.  So he went short and made a killing.

Breakouts

The book teaches us that once something gets momentum, it breaks out of its “range” and from there continues to rally. 
While the book doesn’t mention it, this range concept is mathematically based on standard deviation, which is the square root of the squared sum of all the values minus the mean.

As an example of a breakout range, readers are given an example of once a stock breaks a new all-time high, it usually rallies for a bit.  But Livermore points out how most traders are too timid to buy a stock at a new high and miss it.

Bubbles

In 1915, stocks were blazing higher and higher, but Livermore knew it was a bubble.  However, he rode it out (held equities), keeping an eye on when the short would come.

“The Stock-market winnings during 1915 were more widely distributed than in any other boom in the history of Wall Street.  That the public did not turn all their paper profits into good hard cash or that they did not long keep what profits they actually took was merely history repeating itself.  Nowhere does history indulge in repetitions so often or so uniformly as in Wall Street.  When you read contemporary accounts of booms or panics the one thing that strikes you most forcibly is how little either stock speculation or stock speculators today differ from yesterday.  The game does not change and neither does human nature.”

He points out how he can change his mind quickly from bull to bear.

“A man does not swear eternal allegiance to either the bull or the bear side.  His concern lies with being right.”

Livermore teaches traders that the market ceases to be a bull market before prices break; you just have to know what to look for.  In this 1915 example, he saw the stocks that were normally leading the pack on the way up were no longer advancing, even though the laggards still were.  However, he didn’t short sell right away.  Going back to the earlier section on scaling and timing, he never tried to sell at the exact top, but instead, sold after a reaction if there were no rally.

When the news of peace from World War I broke, it was a bear for stocks that were war profiteering.  Livermore quickly took profits and in this case stressed the importance of cashing out from sudden market reactions.

“When something happens on which you had not counted when you made your plans it behooves you to utilize the opportunity that a kindly fate offers you.”

Although the book doesn’t mention it, I noticed this advice was contradictory to the previous advice of not to sell too soon and believe in yourself.  However, I noticed a difference in this situation.  When Livermore advised to sit tight and keep collecting on your winning position, that was when things were going according to the trader’s plan.  In this example, it’s when sudden outside news that the trader did not anticipate and wasn’t part of his (or her) original plan works in his favor, he should cash out on that lucky move.  Also, Livermore gives the example of in 1907, a similar market crash situation had him cover.

“In a bear market it always wise to cover if complete demoralization suddenly develops.”

Conclusion

Author Edwin Lefevre really captures the life and mindset of this brilliant trader in this Wall St classic.  Not only do we get quality trading advice, but we learn the history of the stock market from the early 1900s in an entertaining way.