In my last article, the “The art of gambling in speculative stocks”, I used Ooi Teik Bee and Masteel as an example. And oh boy, the sheer amount of controversy and blow back! That was an interesting experience.

A lot of it stemmed from me calling Ooi Teik Bee a “Speculator”. Despite me complimenting him as the best one in Bursa, I still got criticized by his followers.

I think this is because people in general have a negative impression of the word “Speculator”, and thus do not like being labelled as one, or have their heroes labelled as one.

Well, it was a long time since that last post. And what an interesting time it has been. Both Hengyuan and Masteel dropped quite a bit. Personally, Hengyuan was a 3% position in my fund at RM14.3. I had previous sold at RM17 and rebought at that price. I’m still thinking about adding some.

However, let me be clear, i am not criticizing OTB's calls then because they have dropped. And to be fair,  the entire market other than the blue chips have tanked a bit, and he has had abit of a sentiment problem with Donald Trump.

My critque has always been on his decision making process for recommending those 2 at the current prices or its valaution. But, we both come from very different viewpoints and thus, more often than not, its likely that my critque is just one side of the coin.

Now, lets try to differentiate between an "Investor" and a "Trader". But before we continue, we need to ask the question.

1. Why do i need to able to differentiate between a Trader or and Investor?
2. Will it help me make money?

The answer to the second question is "Yes, not so much make money, but protect capital"

The answer to the first one however, is a little complex.

“In the minds of most individuals, investment (investor) and speculation (trader/ speculator) are now indistinguishable” - John Bogle

In this day and age, the word "Investor" have been hijacked and bandied about too often for it to have any firm definition anymore. More often that not, anyone who now buys and sells assets and it derivatives are considered an investor. We think of "Traders" as people completely sperate from us, likely to be that guy with 6 monitors in his face and wearing a mic. 

Whats the definition of "Investor" then? Well, depends on who's saying it.

So again, why do we need to be able to diffentiate? 

“Since there is no single definition of investment in general acceptance, authorities have the right to define it pretty much as they please. Many of them deny that there is any useful or dependable difference between the concepts of investment and of speculation. We think this skepticism is unnecessary and harmful. It is injurious because it lends encouragement to the innate leaning of many people toward the excitement and hazards of stock-market speculation.” - Benjamin Graham

In short, you need to know if you're a trader or an investor because its important to know what you're doing. The problem is if you're a trader but you think you're an investor. And therefore you put 99% or even 150% of your networth in the markets.

Poker players, no matter how good. Do not bring more than 20% of their networth into the game. Or at least try not to. That's why we very rarely hear of poker players getting sued for casino's for debts. But we hear about the businessman who lost SGD25mil in Marina Bay all the time and is now being sued.

With this article, i hope you will be able to understand who you are, what you're doing, the chracteristics of what youre doing, as well as the pro and cons. I know the writing of this article have definitely helped me.
 

Traders and Investors are essential participants of the market.

Lets get one thing out of the way. This not a sneaky attempt to demonize speculation and declare that only investing is sacrosanct.

The truth of the matter is, despite what everyone says. Traders and Investors are key components of the market. And more often than not, market participants usually consist of 80% traders and 20% of investors. A brief look though the post in I3 would indicate that’s the case.

The existence of traders help to keep our markets efficient and provide liquidity. If everyone was an investor like me and only trades only one to three times a month, markets will not be as efficient, and the lack of daily liquidity will do more harm than good.

In the commodities market, the liquidity provided by traders also enable people like farmers to lock in their cost today, and next month’s sale price of their goods. That fits the the standard economic model of mutually beneficial exchange that improves the welfare of both trading parties.

 

“Outright speculation is neither immoral, nor (for most people) fattening to the pocketbook. More than that, some speculation is necessary and unavoidable. But, there is intelligent speculation as there is intelligent investing. There are many ways in which speculation may be unintelligent." - Benjamin Graham

It is also very important to understand, that all of us, have both trader and investor characteristics within ourselves. It’s the proportion of it that determines if we are a Trader or Investor.

Having said that, i've listed a few traders who have made it big. Many of them,  i also admire very much. I will not list down famous investors, as those are household knowledge to be honest.

 

1. Ray Dalio
   One of my personal favourites. He is the founder of Bridgewater, the biggest hedge fund in the world. His book “Principles” is a must to learn about economics, finance and living life.
   
    
2. Paul Tudor James
   Not exceedingly famous for anything in particular other than he has a good long term record. Interesting story, more than 10 years ago his returns were floundering and he just couldn’t trade like he used to, so he paid Anthony Robbins to help him get back his mind set. Nowadays, he calls Anthony Robbins every morning and night. And shares a portion of his profit with him.

3. George Soros
   The most famous, the man who broke the bank of England, and the target of Mahathir’s conspiracy theory. Also the richest on this list. His theory on reflexivity is ground breaking when it came to predicting market behaviour and price movements.

4. Micheal Burry
   Founder of Scion Capital, he was the character in the movie “The Big Short” (great movie, go watch). He called and made obscene amounts of money from buying insurance mortgages in 2008, and is also a great investor. He says that the next big problem we will have is water, so focus on buying good agricultural land with their own water source and water rights. Like almond farms.

5. James Simmons
   Founder of Renaissance Technologies, a quantitative trading firm. From 1994 to 2014, the fund has CAGR of 71.4% per annum, it is only for the founders and employees of the firm unfortunately.
   
   Here is his take on trading based on technicals, buy sell signals and volumes, as well as other indicators/patterns (economy, commodity prices, interest rates etc etc etc )
   
   Predictions made is only accurate in the short term. Much like weather prediction. The shorter the time frame, the more accurate it will be.
   
   Markets are dynamic, what works now won’t work 2 weeks from now.
   
    
6. "50 cent"
   The nickname of a trader who buys USD 50mill worth of options worth 50 cents shorting the Volatility Index (VIX) every few months for the last 1 and a half years. He had negative P/L for one a half year before the massive volatility this year made him a lot of money. For the record, the VIX fell from USD138 to USD9.3 in just 3 days.

7. Ed Thorpe
   He first solved blackjack and trained MIT students to game the casinos. After being banned from every casino in the world, he decided to trade the biggest casino in the world, the stock markets.
   
   He was the first to find a way to properly value options and derivatives, before Black Scholes became famous.
   
   When Warren Buffet closed his initial partnership, one of his investors asked him to talk to Ed Thorpe, a guy he was interesting in putting his money in and give him his opinion.
   
   When Ed Thorpe met Warren Buffett, he thought to himself “This man will one day be the richest man in the world” which turned out true, and Ed made sure he bought Berkshire shares the moment it listed.
   
   Warren also apparently liked Ed Thorpe, and his investor puts a very very significant sum into him.

8. Nassim Nicholas Taleb
   My absolute favourite. Best thinker there is on probabilities, statistics and how they apply to our lives. Also an options trader. When his book “The Black Swan” came out, it was the bible in wall street. Howard Marks calls him one of his favourite writers and thinker.

Now, let’s talk about "Traders" and "Investors" and how i diffrentiate them. 

The Trader
In general, it sucks being a trader in the KLSE market. This due to how narrow our markets are, as we do not have options, shorts, or other derivatives. As well as zero local access to forex and commodities markets for retailers.

It more ways than one, it is a good thing. As this ensures that the citizens will be focused on productive activities instead of gambling, but it sure makes trading the stock market suck, and our markets a little less efficient. Which oddly, is great for the investor, as it ensures bargains exist all the time.

Now what is a trader?

Traders are the people who purchase or sell securities or commodities in expectation of profiting by fluctuations in their price. And often they either use margin facilities outright, or purchase things like options or derivatives which are financial instruments with leverage already embedded in it.

They try and predict the movement/fluctuation of prices based on news, microeconomic and macroeconomic trends, technical indicators, sentiment, their own perspective of the economy, the history of the world, crack spreads etc.

The greater ones, also do a complete research into the industries whose goods they trade in.

Ray Dalio for example, studied how soy bean relates to say, corn and palm oil. What their various uses are in the world and how their prices affected each other. And through models coded into his computers. He can roughly predict the movement in price across all this commodities due to something as random as say the rise in price of a certain fertiliser.

In the KLSE, we have basically 3 major kinds of traders. Most people combine characteristics from all three.
 

1. Trades off technical indicators (Those only trade off technicals are the suckers)
    
2. Makes bets based on macroeconomic view like oil prices and potential etc.
    
3. Predicting quarter’s results.

The vast majority of traders here (or even globally) are short term traders, often having turnover periods of less than a month, or even a day. Some, are mid-term with 3 to 9 months holding period (Ooi Teik Bee, ICON8888 etc). However, on occasion, they may even hold for more than a year or two. 

Most KLSE traders try and predict sentiment and ride the wave. A large subset of those also tries to predict quarter results. We do not have monster billionaire traders in Malaysia. The closest we have to one is Koon Yew Yin. Sad really.

Overseas, we can find the truly monstrous and great traders. Those who trade with a very long term view of years and with billions. This means, they better be right, cause they are not getting out easily.

The VIX trade by “50 Cent” took almost 2 years to pay off.

The purchase of insurance for mortgages that paid off massively in 2008, took almost 3 years to come to fruition.

One should also note that many others also had the same ideas of shorting VIX or buying insurance for mortgages, but they just couldn’t handle the losses, whether due to emotion or the margin calls.

For traders, the market is a zero sum game. The competition is absolutely cut throat and insane. For every winner, there must be a loser. And some win alot. While most lose.

"If you are ready to give up everything else and study the whole history and background of the market and all principal companies whose stocks are on the board as carefully as a medical student studies anatomy - if you can do all that and in addition you have the cool nerves of a gambler, the sixth sense of a clairvoyant and the courage of a lion, you have a ghost of a chance." - Barnard Baruch

For the vast majority of people, trading is a losing game in the long run. The best traders in the world, Ray Dalio (Bridgewater) and Jim Simmons (Renaissance Technologies) rely on computers, algorithms and automation based on more than 100 million datasets of every possible kind you can imagine. They themselves admitted if they had to do it by hand, and rely on their own emotional control, they would likely have been very unsuccessful.

The probability of finding an edge in trading for the average layman is close to zero. 

You can’t deny that it can be quite fun though.
 

The multiple levels of a Trader.

Level 1 Trader
He has just joined the markets. The movement of figures on the screen fascinates him. He looks at the charts, and realizes that there is a certain pattern to them. It’s almost as if you can predict it.

He tries on his own, he reads that you should trade the high volume stocks and so he does that. The stock goes up 1% and he quickly takes the profit. Wow, he thinks, I can do this for a long time! He sees that they are roughly 30% to 50% of stocks that close green or go up each day. He thinks it shouldn’t be too hard to pick the right one most of the time.

Level 2 Trader
He just got burnt. He realizes you can’t just win 1% and lose 5%. He now knows it’s not that easy, and would like to learn. He wonders what is this stochastic, EMA or breakout he see people comment about every day means. And why people keep saying a stock will go up or down based on this things.

He feels like he knows nothing and would like to learn. And so he takes technical analysis classes. He learns to read the tea leaves of the stock market. He learns candlestick, volume analysis, operator analysis or whatever is in vogue now. The way the person teach seems very funny and informative. Everything seems to make sense!

At his point, this trader may even have joined a few trading groups.

Level 3 Trader
He seems to always sell to early or too late. When he sells to early, he tells himself, cannot make the same mistake, next time must hold longer. The next time, he sold too late. He tells himself must not get greedy and take profit.

Now, when a stock go up 2%, he pays 0.5% in fees. When it goes down 2%, he also pays 0.5% in fees. When he happened to find a good stock, he buys at RM0.8, sells at RM0.85. Buys again at RM0.9, sells at RM0.95. Buys at RM1.0, sells at 1.05. Buys again at RM1.1, but this time, the stock drops to 0.85.

The chart says it should rebound. He buys more on margin. Its drops to RM0.8, he panics and cut loss. Or he follows his rules and cut loss.

The stock goes back up to RM1.0 two weeks later. He looks at it and feels regret. He always seems to miss the timing when it matters (he seem to forget our losses are more obvious than our wins due to how our brains are wired.). His cut loss seem to cut him out of future wins, and his wins seem to turn into losses.

He looks at the chart again to try and analyse his mistakes. He slowly realizes that charts make sense in retrospect, but is actually really hard to predict in the future. In addition, the longer the time period the harder it is to predict.

He rationalizes that it might be because some stock is fundamentally good or bad, and this results in it leaning to going up or down. And so, he decides to learn some fundamentals.

Level 4 Trader
He now subscribes to OTB. He sees his name every day before this and figures he must be good.

Every week OTB gives him updates and they seem to work out. His returns appear fantastic, and the stocks, some of them seem good fundamentally. He has also learnt how to do some valuation work and knows how to read the research of others.

He sees the Ms Universe picks and from what he’s learnt valuation wise. They appear to be good. He feels safer and thus takes more risk. He buys them on margin.

They work out, he feels even braver and increases his margin. He is winning. He’s solved the market and OTB is his Jesus. Now, he may even consider himself an investor. He rationalizes that the prices moved up so quickly because it’s a good company.

And then, a 5 PE stock drops to 3 PE. As he was on margin, he gets margin called. He pays up (if he has any left). He knows it’s good, but he can’t seem to bear it dropping every day or second. The fear starts dripping into him. What if it keeps dropping. A 5 PE stock dropped to 3 PE. What’s to say it won’t drop to 2PE or less?

Market is irrational, so he will be irrational and sell too. Because it is a downtrend stock and break SMA.

Level 5 Trader
He now understands that OTB is not his god. As much as he wants to, he cannot blame all the losses on OTB, as OTB role is to do research, the choice to buy and go on margin is his own decision.

He stops looking at the price every day as he now understands that trying to predict short term price movements is a loser game, especially given how little the tools you have.

In addition, the more you judge yourselves based on short term results. The shorter and more narrow ones perspective becomes. And the impossibility of it all makes one more emotional and foolish, as you now also leave yourself no time to improve your knowledge or do your own research.

He now tries to do his own research. Sometimes, he might even really go deep into research on the industry. He understands rebar prices, demand for rebar etc. He announces them on I3, in an article, hoping for people to read it and push prices up.

Some even develop their own following and group. And therefore can fry stocks up themselves. And the smarter ones, who know EV, will sell their stocks after it goes up, but before the news.

For some at this level, they might also decide that the KLSE is too narrow for him and now puts money in a US trading account, and starts trading in the US.

Level 6 Trader
He discovers the vast world that is the US markets. And how incredibly cut throat it is. The markets are vast, but there are trillions of dollars from hedge funds with super smart people doing research, high frequency traders, quant funds, algorithm funds, value investing funds etc. The markets in general is very efficient and to an extent accurate there.

Also, just in stocks, there are more than 25,000 companies listed in US stock markets, compared to just 965 companies in the Bursa. Good luck reading them all and trying to move the prices through a blog post.

In the end, he reserves his trading to black swan events. Like betting against the VIX, betting for the Brexit, betting for Donald Trump to win. Events that have very positive EV.

For example, Trump probably had something like 40% chance of winning. The signs were very obvious, at least for me, every poll done on facebook, shows the love for trump or the distaste for hillary. But markets were only pricing it as if he only has less than 10% chance that win, the peso actually gained against the USD!

That is a 10 to 1 payout shorting the PESI to the RMB, for a 4:6 chance.

The rest he places into index funds and certain companies he really likes and have researched.

He also trades a little on the side into warrants he feels are too under-priced in Malaysia, both due to sentiment and a little on valuation. He also allocates some portion to riding the waves and taking advantage of the crowds.

But he understands that this is trading, speculative and more on fun. And sizes his investment accordingly.

He knows that disaster occurs when traders or speculators think they are investors, and invest like one. Failing badly in bet sizing.

He also understands that positive EV, no matter how good is not enough. The key things in the market is to survive. If one played Russian roulette with a 6 chambered gun, the positive EV is 83%. But all you need is one trade to go against you and you are ruined and no longer able to play the game of life or investing. Avoid the the probabilities of ruin no matter how slim.

The Investor
In more ways than one, investing is very similar to trading. For what is investing, except the long term arbitrage between the intrinsic value of the stock and its price.

What is investing?


 

“An investment operation is one which, upon thorough analysis, promises safety of principal and a satisfactory return. Operations not meeting these requirements are speculative.” - Benjamin Graham

Which to be honest, is not very specific and leaves a lot to be desired.

John Maynard Keynes, one of the fathers of economics, is also a skilled trader in bonds, currencies and commodities, as well as a great investor. He defines trading and investing as such.

“Appropriate the term speculation for the activity of forecasting the psychology of the market, and the term enterprise (a word he used for investment) for the activity of forecasting the prospective yield of assets over their whole life.” - John Maynard Keynes

The main difference is this. Investing means long terms ownership. While Trading/Speculation is short term trading.

Phillip Carret. A famed speculator and writer of The Art of Speculation, says this.

“The time requisite for the accomplishment of the adjustment of prices to values is a factor of great weight to the speculator. Here he parts company with the investor, to whom it is of little concern.” - Phillip Carret

As OTB himself says, TA is first, fundamentals second. Clearly he is mainly a trader. ICON8888 and his articles, clearly try to predict future earnings with very little regard to the true fundamentals of the company. For if that is the basis upon which he chooses his investment, they are so many other companies that are better business with far cheaper valuations.

Do note ICON8888 also has very sharp investor characteristics, in his own words, he says that where he thinks the company is fanatastic, he will only sell 70% of his trading position and keep the rest as an investment.

Is the stock market then, as Koon Yew Yin puts it, a zero sum game?

It is if you’re a trader. But if you’re an investor, you have something else supporting your every movement.

For an investor, there actually exist a way for everyone to win. Since the inception of the S&P500 from 1928 to 2017, it has gained 12% CAGR (with much volatility though, i might add).

Why? Because the economy of the world grows constantly! This results in an increase of corporate earnings, which increase dividend pay-outs and/or the value of the companies!

And with this positive wave helping most of your moves. It is a lot easier to succeed as an investor than a trader! Make no mistake, its may be simple but by no means easy. But your odds of success is far higher than that of a trader.

The multiple levels of an Investor.
 

Level 1 Investor
This investor invest in blue chip names, where he can roughly understand the business and knows it is good. However, he forgets to factor in valuations. He often loses money in the short term, but long term, as long as he holds and buys more during recession and sell some during the ride of the bull. He should end up ok. 

These days, many also directly just buy the index, after the constant preaching by john bogle, warren buffet and charlie munger. They should do better than most investors, even those of the higher level.

 

Level 2 Investor
This investor takes into account valuations to an extent. He sees a post on I3 by someone saying a company is cheap. And he too thinks it is cheap based on whatever metric used by the writer (not knowing there are more than a few ways to skin a cat). And so buys a few shares.

He also does not really do comparison between opportunities as he simply have not seen enough different opportunities.

Level 3 Investor
This investor is aware of the full array of tools and methods available for the valuation of companies. He may not be able to value insurance companies or banks, but can roughly value pretty much every other company.

He is also a little lazy to use DCF, and so relies mainly on P/E, EV/EBIT, P/B, ROE and P/RNAV. Nothing wrong with this, they are mostly adequate.

He is also aware that there is so many opportunities out there, and is roughly able to compare one opportunity to another. But since he does not have the time to read everything, he just tries to be a little more discerning. He is unlikely to find the cheapest bargains, but should be able to pick the better ones.

Some here reach a higher level, and understands that he cannot beat the market. Whether due to lack of effort or not wanting to put in the effort. He knows that investing is simple but hard, and puts some money in certain companies he really likes and buys the index with the rest. He mainly buys US indexes, and may buy more of others like the MCSI if he feels US stocks are overvalued.

Level 4 Investor
He’s willing to put in the effort. He thinks he might have the capability of beating the market, despite statistics telling him otherwise. He is willing to sit down and sift through hundreds of annual reports consistently. A lot of this is because he genuinely enjoys the experience and the mental challenge.

He also knows that not everything of worth is quantifiable, and not everything quantified is of worth. There is a quote by GK Chesterton that on life that applies equally well to investing.

“The real trouble with this world of ours is not that it is an unreasonable world, nor even that it is a reasonable one. The commonest kind of trouble is that it is nearly reasonable, but not quite. Life is not an illogicality; yet it is a trap for logicians. It looks just a little more mathematical and regular than it is; its exactitude is obvious, but its inexactitude is hidden; its wildness lies in wait."

And so, he focuses on developing a latticework of mental models to better process information. He also widens his knowledge as much as possible in every field, from economics, biology, and philosophy to history to better understand the context of the information.

Some may even have a decent 2-3 year track record, maybe even 5. But he knows it’s too short to know if it’s any proof. He will need at least 10-15 years for it to be a little useful.

He also knows enough to know he knows very very little. And in the words of Ray Dalio (the famed trader), understands that success comes from how you handle not knowing everything, instead of trying to know everything.

He also does not know if he’s just a person who can write and speak well about investing, but is actually rubbish at investing. Or if he could actually be a good investor.

He knows that volatility is not risk. That the only risk in the market is permanent loss of capital.

I'd like to think im here.

Level 5 Investor
He has at least a 10-15 year track record under his belt. And have beaten the market by 10% CAGR or so. He also understands the context of his track record, and does not pay much weight to it unless it has gone through bulls and bears multiple times.

He knows that there is a chance he pretty good investor. But he knows that he still does not know that much, espeacially compared to those with track records of 25 years and above, with 20% CAGR. They had to work with more money too.
However, his goal is not to compete with them, as he enjoys the process. His goal is the same as always, read more, learn more, and let that knowledge compound. 

All that knowledge gathering over the years have compounded. And he has unbelievable breadth and depth in both knowledge and experience. He is able to analyse most companies in just a few minutes and ask know most if not all of the important questions to ask.

He also keeps within his circle of comeptence, but constantly works to expand that circle of competence. 

He is also unlikely to find companies good enough for him to invest often. But when he does find one, he makes sure his does a very detailed research, and put a significant amount in.

But they are also other investors of the same level who are very diversified. Such as Yeoman.  They know that they are capable, but they are very humble before the markets. He knows that what he does not know , what you do not know you dont know, is the thing that will kill you.

And thus, he sets a certain minimum threshold for an investment to pass before he will invest required. And when something meets it, he will put 2-3% in. No exceptions. His returns are not fantastic, but they are above average and somewhat more stable.

Closing remarks
As always, if you've made it this far. Thank you for reading the arrogant musings of a young ciku.

I hope this article has been as useful for you as it was for me in writing it.

As always, let me know if you have any queries or criticism (Preferred). The goal is to know what is right. Whether it is me or you who is right does not matter. There is no place for egotism in the markets and to an extent in life.

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