About one-third of my readers are professional financial advisors who earn their crust of bread telling clients how to invest their retirement assets for a fixed fee.

They used to earn a share of the brokerage fees they generated. After stock commissions went to near zero, they started charging a flat 1.25% a year on the assets they oversaw.

So it is with some sadness that I have watched this troubled industry enter a long-term secular decline which seems to be worsening by the day.

Some miscreants steered clients into securities solely based on the commissions they earned, which could reach 8% or more, whether it made any investment sense or not. Some of the instruments they recommended were nothing more than blatant rip-offs.

Knowing hundreds of financial advisors personally, I can tell you that virtually all are hardworking professionals who go the extra mile to safeguard customer assets while earning incremental positive returns.

That is no easy task given the exponential speed with which the global economy is evolving. Yesterday’s “widow and orphans” safe bets can transform overnight into today’s reckless adventure.

Look no further than coal, energy, and the auto industry. Once a mainstay of conservative portfolios, all of these sectors have, or came close to filing for bankruptcy two years ago. 

Even my own local power utility, Pacific Gas & Electric Company (PGE), filed for chapter 11 in 2019 because they couldn’t handle the liability created by massive wildfires.

Some advisors even go the extent of scouring the Internet for a trade mentoring service that can ease their burden, like the Diary of a Mad Hedge Fund Trader, to get their clients that extra edge.

Traditional financial managers have been under siege for decades.

Commissions have been cut, expenses increased, and mysterious “fees” have started showing up on customer statements.

Those who work for big firms, like UBS, Morgan Stanley, Goldman Sacks, Merrill Lynch, and Charles Schwab, have seen health insurance coverage cut back and deductibles raised.

The safety of custody with big firms has always been a myth. Remember, all of these guys would have gone under during the 2008-09 financial crash if they hadn’t been bailed out by the government. It will happen again.

The quality of the research has taken a nosedive, with sectors, like small caps, no longer covered.

What remains offers nothing but waffle and indecision. Many analysts are afraid to commit to a real recommendation for fear of getting sued, or worse, scaring away lucrative investment banking business.

And have you noticed that after Dodd-Frank, two-thirds of a brokerage report is made up of disclosures?

Many advisors have, in fact, evolved over the decades from money managers to asset gatherers and relationship managers.

Their job is now to steer investors into “safe” funds managed by third parties that have to carry all of the liability for bad decisions (buying energy plays in 2014?).

The firms have effectively become toll-takers, charging a commission for anything that moves.

They have become so risk-averse that they have banned participation in anything exotic, like options, option spreads, (VIX) trading, any 2X leveraged ETFs, or inverse ETFs of any kind. When dealing in esoterica is permitted, the commissions are doubled.

Even my own newsletter has to get compliance review before it is distributed to clients, often provided by third parties to smaller firms.

“Every year they try to chip away at something”, one beleaguered advisor confided to me with despair.

Big brokers often hype their own services with expensive advertising campaigns that unrealistically elevate client expectations.

Modern media doesn’t help either.

I can’t tell you how many times I have had to convince advisors not to dump all their stocks at a market bottom because of something they heard on TV, saw on the Internet, or read in a competing newsletter warning that financial Armageddon was imminent.

Customers are force-fed the same misinformation. One of my main jobs is to provide advisors with the fodder they need to refute the many “end of the world” scenarios that seem to be in continuous circulation.

In fact, a sudden wave of such calls has proven to be a great “bottoming” indicator for me.

Personally, I don’t expect to see another major financial crisis until 2032 at the earliest, and by then, I’d probably be dead.

Because of all of the above, about half of my financial advisor readers have confided in me a desire to go independent in the near future, if they are not already.

Sure, they won’t be ducking all these bullets. But at least they will have an independent business they can either sell at a future date or pass on to a succeeding generation.

Overheads are far easier to control when you own your own business, and the tax advantages can be substantial.

A secular trend away from non-discretionary to discretionary account management is a decisive move in this direction.

There seems to be a great separation of the wheat from the chaff going on in the financial advisory industry.

Those who can stay ahead of the curve, both with the markets and their own business models, are soaking up all the assets. Those that can’t are unable to hold on to enough money to keep their businesses going.

Let’s face it, in the modern age, every industry is being put through a meat grinder. Thanks to hyper-accelerating technology, business models are changing by the day.

Just be happy you’re not a doctor trying to figure out Obamacare.

Those individuals who can reinvent themselves quickly will succeed. Those that won’t, will quickly be confined to the dustbin of history.

It’s Not as Easy as It Looks

I usually try to catch three or four trend changes a year, which might generate 100-200 trades, and often come in frenzied bursts.

Since I am one of the greatest tightwads that ever walked the planet, I only like to buy positions when we are at the height of despair and despondency, and traders are raining off the Golden Gate Bridge like a heavy winter downpour.

Similarly, I only like to sell when the markets are tripping on steroids and ecstasy and are convinced that they can live forever.

 

Some 99% of the time, the markets are in the middle, and there is nothing to do but deep research and looking for the next trade. That is the purpose of this letter.

Over the five decades that I have been trading, I have learned a number of tried and true rules which have saved my bacon countless times. I will share them with you today.

1) Don’t over-trade. This is the number one reason why individual investors lose money. Look at your trades of the past year and apply the 90/10 rule. Dump the least profitable 90% and watch your performance skyrocket. Then aim for that 10%. Over-trading is a great early retirement plan for your broker, not you.

2) Always use stops. Risk control is the measure of a good hedge fund trader. If you lose all your capital on the lemons, you can’t play when the great trades set up. Consider cash as having an option value.

3) Don’t forget to sell. Date, don’t marry your positions. Remember, hogs get fed and pigs get slaughtered. My late mentor, Barton Biggs, told me to always leave the last 10% of a move for the next guy.

4) You don’t have to be a genius to play this game. If that was required, Wall Street would have run out of players a long time ago.

If you employ risk control and stops, then you can be wrong 40% of the time, and still make a living. That’s a little better than a coin toss. If you are wrong only 30% of the time, you can make millions.

If you are wrong a scant 20% of the time, you are heading a trading desk at Goldman Sachs. If you are wrong a scant 10% of the time, you are running a $20 billion hedge fund that the public only hears about when you pay $100 million for a pickled shark at a modern art auction.

If someone says they are never wrong, as is often claimed on the Internet, run a mile, because it is impossible. By the way, I was wrong 12% of the time in 2019. That’s what you’re paying me for.

5) This is hard work. Trading attracts a lot of wide-eyed, naïve, but lazy people because it appears so easy from the outside. You buy a stock, watch it go up, and make money. How hard is that?

The reality is that successful investing requires twice as much work as a normal job. The more research you put into a trade, the more comfortable you will become, and the more profitable it will be. That’s what this letter is for.

6) Don’t chase the market. If you do, it will turn back and bite you. Wait for it to come to you. If your miss the train, there will be another one along in minutes, hours, days, weeks, or months. Patience is a virtue.

7) Limit Your Losses. When I put on a position, I calculate how much I am willing to lose to keep it. I then put a stop just below there. If I get triggered, I just walk away. Emotion never enters the equation.

Only enter a trade when the risk/ reward is in your favor. You can start at 3:1 which means only risk a dollar to potentially make three.

8) Don’t confuse a bull market with brilliance. I am not smart, just old as dirt and have seen everything ten times over. I only have to decide which movie they’re replaying.

9) Tape this quote from the great economist and early hedge fund trader of the 1930s, John Maynard Keynes, to your computer monitor: "Markets can remain illogical longer than you can remain solvent." Hang around long enough, and you will see this proven time and again (ten-year US Treasuries at 1.45%?!).

10) Don’t believe the media. I know, I used to be one of them. Look for the hard data, the numbers, and you’ll see that often the talking heads, the paid industry apologists, and politicians don’t know what they are talking about (the Gulf oil spill will create a dead zone for decades?).

Average out all the public commentary, and half are bullish and half bearish at any given time. The problem is that they never tell you which one is right (that is my job). When they all go one way, the markets usually go the opposite direction.

 

 

11) When you are running a long/short portfolio, 80% of your time is spent managing the shorts. If you don’t want to do the work, then cash beats a short any day of the week.

12) Sometimes the conventional wisdom is right.

13) Invest like a fundamentalist, execute like a technical analyst. This is what all the pros do.

14) Use technical analysis only, and you will buy every rally, sell every dip, and end up broke. That said, learn what an “outside reversal” is, and who the hell is that Italian guy, Leonardo Fibonacci.

15) The simpler a market approach, the better it works. Everyone talks about “buy low and sell high”, but few actually do it. All black boxes eventually blow up, if they were ever there in the first place.

16) Markets are made up of people. Understand and anticipate how they think, and you will know what the markets are going to do.

17) Understand what information is in the market and what isn’t and you will make more money.

18) Do the hard trade, the one that everyone tells you that you are “Mad” to do. If you add a position and then throw up on your shoes afterward, then you know you’ve done the right thing. This is why people started calling me “Mad” 40 years ago. (What? Tech stocks were a huge buy the first week of January?).

19) If you are trying to get out of a hole, the first thing to do is quit digging and throw away the shovel. Sell everything. A blank position sheet can be invigorating and illuminating.

20) Making money in the market is an unnatural act, and fights against the tide of evolution.

We, humans, are predators and hunters who evolved to track the game on the horizon of an African savanna. If you don’t believe me,b v just check out how sharp your front incisor teeth are. They’re for tearing raw meat. Modern humans are maybe 5 million years old, but civilization has been around for only 10,000 years.

Our brains have not had time to make the adjustment. In the market, this means that if a stock has gone up, you believe it will continue to do so.

This is why market tops and bottoms see volume spikes. To make money, you have to go against these innate instincts.

Some people are born with this ability, while others can only learn it through decades of training. I am in the latter group.

With all that said, good luck and good trading. Fresh content resumes next week when I am back from Australia.

 

Great Hunter, Lousy Trader

 

Great Trader