Uncertainty across markets. + Trading Psychology: Needing a strategy + Ali.

Markets have been highly volatile this week. The SP500 has had a 30 point range centred around 1175, the EURUSD has ranged from 1.3700 to 1.4050; wide ranges and no direction are prevalent across many markets this week. The upcoming G20 meeting this weekend, the more crucial Nov FOMC, where all should be revealed regarding further Fed action, and the backdrop of major industrial action and violence in France are all serving to make conditions extremely uncertain. I will not dwell on markets any further for now as I think it is best to stay out for now and see how things pan out. Instead I would like to talk about Trading Psychology.

A couple of weeks ago I blogged an article titled 'Mastering psychological and emotional aspects is critical in trading'. Today's post will look at why a defined strategy and careful application of that strategy is so vital to gaining an edge and be successful.

I am going to use a couple of analogies to help illustrate the point: Think of a trader's approach to the markets as a person walking into a casino (the analogy is not being stretched that far). The casino has two tables, one offering roulette, and one offering blackjack, the trader does not make a conscious decision to go to a table, however he makes a subconscious decision. Lets say half the traders move to the roulette table and other half the blackjack table.

Roulette :  A game that it is impossible to win in a casino if continually played: The odds of winning when the ball drops on a single number are 37:1; the payout is 35:1. In fact whichever strategy one chooses; red or black, odd or even, etc, the payout is always marginally lower than the odds of winning.

So why do people play it ? Well a win of 35 times the stake sound very nice, when not weighed against the risk. It makes people feel good; furthermore people fool themselves into thinking they are actually very good at this, or that they have some sort of control over it, in other words it satiates their egos. Another explanation is that people are not actually tracking their losses and gains, over time they will forget or ignore their losses and focus only on the times they won, and when they do lose they are usually convinced that they will win next time. In addition many of them will be satisfied since they enjoyed the buzz of being around the roulette table and in the frenetic exciting world of the casino. There is even a certain machismo chest-thumping pride amongst some people when they lose big. – however and whatever the circumstances, in the long run continual playing of roulette provides guaranteed losses for players.

Now consider Blackjack. – The odds of winning in Blackjack are also stacked against the player. It is hard to define the true odds of winning on Blackjack; there are so many permutations both within a standard game and given the number of rule variations, however the odds are slightly tipped in favour of the house. But there are ways; lets call them strategies, whereby the player can tip the odds ever so slightly in his favour. It is known as card counting; it is not an easy thing to do, not easy at all, however with practice, plus discipline and patience, it can be done. Thus if done well; a player can successfully tip the odds slightly in their favour, giving them that crucial ‘edge’. This is the game that the many traders, including the successful ones try and play; in reality only very few are actually able to carry off the art of card counting, however those that are able to succeed at it will be the winners, it is they who equate to the 5 - 10% of people who enter trading who are able to make a success of it.

 (For a really good read on blackjack and card-counting I highly recommend 'Bringing Down the House: The Inside Story of Six MIT Students Who Took Vegas for Millions' by Ben Mezrich , which I referred to previously in my earlier piece 'My top 10 Trading related books'.

Before, I leave this I want to show one further example of how strategy, and correct implementation of that strategy, can turn the odds in ones favour. The example is from the world of sport, and probably the most famous boxing match of all time; 'The Rumble in the Jungle' between Muhammed Ali and George Foreman in Zaire 1974. I was ten at the time and remember it well as it was all anyone was talking about. The question at the time was not if Foreman would beat Ali, but in what round.

Ali was 32-years old and considered to be past his prime. He had lost 2 of his past 14 fights, these were against Joe Frazier and Ken Norton, though he ultimately beat them both in rematches. Meanwhile the 24-year old George Foreman was at the top of his game, having knocked out both Frazier and Norton, each in two rounds. Foreman was considered an awesome, dangerous boxer his record was 40 wins in 40 fights, and even now his punch is considered the greatest punch in boxing history by many.  He was considered unstoppable by most commentators and experts at the time.

However, Ali had a strategy, the strategy was clearly thought out and practiced in training, it also involved pre-fight strategy implementation, including the following steps:-

Ali charmed the people of Zaire in the build-up to the fight, thus ensuring that as he entered the ring it would appear to be as if he was fighting on home ground.

In preparation for the fight Ali's training was honed almost to perfection. One particular story highlights this: After every sparring session Ali would ask the guys he sparred with how they thought he was doing, the sparring partners would be courteous to Ali, telling him that he was fast and powerful and that he would overcome Foreman. However after one session with a new partner Ali asked him the same question, he replied 'Foremans going to flatten you!, hes too big and too strong, you're just not powerful enough to defeat him'. Whilst there was an outcry from Ali's coaches and trainers, ordering them to get this man out the room, Ali told everyone to be quiet and said 'double his salary, he stays until he tells me how I'm going to beat George'. 


Psychologically he taunted Foreman both before the fight and during the fight, he also played a feint coming flying out of his corner at the start of the fight and launching into Foreman with a string of punches, suggesting to Foreman that this would be Ali's strategy, a strategy which would have played right into Foreman's hands. Foreman had already heard that Ali was planning to fight from the ropes and try and absorb his punches, but this totally threw him.

In the actual fight itself Ali implemented a strategy he termed 'Rope-a-dope'. After the first round assault Foreman came out of his corner in the second round expecting a toe-to-toe battle. Instead, Ali leaned back against the ropes and let Foreman flail away at him. The taunting of Foreman continued, this encouraged Foreman to come at him, Ali however would lean back, only protecting his face. This made Foreman angry and later frustrated, as he gave his best shots to Ali's midsection. But the give in the ropes was sufficient to reduce the damage (It was rumoured that Ali's manager had loosened the ropes, though this was never proved). When Foreman did throw a punch at his face, Ali was able to lean back or move his head just enough that the blow missed or had little impact. This was a special skill Ali had through most of his career. He would often hit an opponent while pulling back to avoid a counter-punch. At one point in the fourth round as Ali was leaning back, Foreman pummelled him with a massive left hook into the side, the punch took so much energy that it actually drained Foreman more than it did damage to Ali.  Although Ali primarily used the rope-a-dope technique, he occasionally counter-attacked with fast, crisp blows to Foreman's face. Then he would slip back into the defensive mode. In this way, he was controlling the pace of the fight, according to his liking.

By the seventh round, Foreman had essentially punched himself out. His arms were tired and sometimes hanging on his side. Ali then used his speed and energy to do damage to Foreman, who was just trying to get in one good punch for a knockout. Ali taunted Foreman by saying, "George, it that all you've got?" Foreman realized that it was all he had.

In the eighth round, Muhammad Ali knocked out George Foreman to regain the World Heavyweight Championship. This was a complete shock, no one had seen this coming, but Ali had shown how a carefully thought out and implemented strategy could shift odds, even when everything seems so heavily stacked against you. As for Foreman, he was so devastated by the defeat, that he was never again the same fighter. (Though years later he did produce a mean grilling machine!!!!).




The point of all this is to emphasise the importance of a well thought out and implemented strategy. If one wants to be successful in trading they need a strategy like a blackjack card-counter in the casino, if they want that strategy to be successful they need to implement it with planning, precision, discipline and self-awareness, in the same way Ali implemented his strategy versus Foreman.


On that note, something for the weekend : It could only ever be one thing really, the eighth round from the 'Rumble in the Jungle', as my personal ultimate sporting hero Ali defeats Foreman. I suggest this is played with the volume up as the commentary is superb.



I also suggest you also watch this superb you tube clip from a serious of famous interviews from the 1970s between British TV interviewer Michael Parkinson and Muhammed Ali:  It defines the man perfectly.





Have a great weekend.