Most Influential Books / Recommended Reading List

I think I recall some relatively recent recommendations on books for the newbie and experienced trader. Since I can’t seem to locate these, I thought I’d start a new thread.

Last week, I read Benoit Mandelbroit’s “The (Mis)behavior of Markets.” While I’m not sure yet how I might incorporate his ideas into my trading, the book is an excellent catalyst for thinking about the markets, from heavy tails probability distributions, to volatility spikes, to the tendency toward trending, and the frailties of the random walk theory, he crafts many refreshing points of view on financial markets. The book got me thinking about which books would be in my all-time top 5 list for investment books.

The following books are probably the ones that have most strongly – and profitably – influenced my investing (lots of ST trading) and I encourage all to check them out. No real surprises here, except perhaps for the Mamis book, but I encourage others to add their thoughts.

  1. All the Jack Schwager interview books (Market Wizards, The New Market Wizards, and Stock Market Wizards)

  2. Japanese Candlestick Charting Techniques – Steve Nison

  3. When to Sell – Justin Mamis

  4. Reminiscences of a Stock Operator – Edwin Lefevre (Jessie Livermore)

  5. any of the behavioral finance books covering the work of Kahneman and Tversky, such as Choices Values and Frames, a compilation of essays

Honorable mention, in no particular order:

[]The (Mis)behavior of Markets – Benoit Mandelbrot
[
]The Intelligent Investor – Benjamin Graham
[]any of the William J. O’Neil books, including his recent The Successful Investor
[
]Trade Your Way to Financial Freedom – Van Tharp
[*]Practical Speculation – Victor Niederhoffer

[]Fire Your Stock Analyst – Harry Domash (and/or the very similar)
[
]Screening the Market – Marc Gerstein
[]How I Made $2,000,000 in the Stock Market – Nicolas Darvas
[
]Technical Analysis of the Financial Markets – John Murphy

Who’s next?

The Gerstein, Van Tharpe and Domash titles bl82 mentioned are on my list also. Here are some more:

  • Mastering Microcaps, Daniel Coker
  • Intermarket Analysis, John Murphy
  • Stock Investing For Everyone, Khan and Zuberi

I’d add the Cd’s available from the MTA as an excellent choice.

The CD which contains all the back issues of the MTA Journal is a wonderful source of suggestions and ideas from the best of the financial world. [;)]

If your really into TA then the CD of back Issues from Stocks & Commodities is another suggested source. See

Also check out the CD rom rentals of seminar speakers available by joining InvestorFlix.com. Here, Don’t let the hype turn you off, they have a free trail for 30 days, fee is $20 per month.

I get much more out of the books that focus less on trading and more on how broad behavioral theory and peoples’ general (mis)understanding of numbers and probability play out in the real world to create investment opportunities. I find it gives me a much, much better strategic basis on which to evaluate potential trading approaches. Some of my all-time favorites are:

  • Fooled By Randomness - Nicolas Taleb (at least the first 2/3s of the book are the most eye-opening I have read and it has made me a rigorous skeptic toward my own trading strategies. You will either love or hate Taleb, there are few in-between. The book will make you think hard and long about whether you really have found a trading advantage or are just being “fooled by randomness”.)

  • Innumeracy - John Allen Paulos (applied behavioral theory lite, but a very easy and enjoyable read. A good primer for some of the heavier books mentioned or the actual BT essays.)

  • Against All Odds: The Story of Risk - Peter Bernstein (I know its been hyped for years, but it is still the best way to comprehend how our current understanding of probability came to be. Reads like a historical biography, so is a good intermediate primer for more in-depth reading.)

Also, I would read Random Walk Down Wall Street if you haven’t because you need to understand the efficient market assumptions to engage fully in beating the not-quite-so-efficient market.

G

Amen to the Mandelbrot book. Same reaction here.

Along with endorsing many of your picks (particularly O’Neil, Schwager and Livermore), I also recommend Alexander Elder’s Come into my Trading Room . Great stuff on money management, trader psychology, and record keeping. Sure wish I had the discipline to follow them all.

In another thread you mentioned Trend Following by the guy who runs TurtleTrader.com. I’m not familiar with the book or with him; is he one of those who charge huge sums for the Turtles system? Much better is to download The Original Turtles Trading Rules, the entire system, at no charge here. Simple, terrific, easy. Again, money management & discipline are the keys.

A lot of people swear by Darvas, but as I remember he was just a run-of-mill adagio dancer who got lucky on a couple of short squeezes. In all fairness, I suppose that he was a pioneer of breakout systems.

I have just a smattering knowledge of candlesticks. I use the chart presentation (much easier than OHLC charts), but am skeptical about all the soothsaying. Tea leaves?

Finally, you mention Dornash. I suspect that he is responsible for a lot of us becoming Port123 members. What more need be added?

I have not read all the books I have collected, but the most memorable of those I have read so far except for a couple some have mentioned already.

McMillian on Options (By Lawrence McMillian)
Trading System Analysis by Robert Barns

To add to the list of Trading Personalities

Soros � The Unauthorized Biography
:

Although many parts of his “buy and hold” style are turned upside-down with mechanical systems like P123, I loved Beating the Street by by Peter Lynch and John Rothchild because it gave me confidence that I could do this kind of thing on my own.

That book (given to me by my mom) is what spurred me to begin to take control of my money.

Let me add “Fortune’s Formula” by William Poundstone to the list. A new book and a great and informative read. Discusses the development of “market beating strategies” (also casino beating strategies) by mathmaticians, physicists - very interesting how they struggled to develop and test their strategies. Much is now trivially easy to us using P123. Also gives an interesting insight into the early hedge funds.

Well worth the read

Lindsay

I would highly recommend “Special Situation Investing: Hedging, Arbitrage and Liquidation” by Brian J.Stark.

Mr. Stark wrote this book as a graduate law student, but he is now a hedge fund manager running billions of dollars using convertible arbitrage and related strategies. This book describes various ways where the intelligent “little guy” can gain an advantage over the big institutions by focussing on niche strategies with less liquidity or where big institutions cannot easily invest. The book is out of print, but is very worthwhile. It is a real classic.

I also liked the Market Wizard books, Ed Thorpe’s books on blackjack and warrant hedging, and Gary Smith’s “Trading for a Living”.

[quote]
(Lindsay) Let me add “Fortune’s Formula” by William Poundstone to the list. A new book and a great and informative read. Discusses the development of “market beating strategies” (also casino beating strategies) by mathmaticians, physicists - very interesting how they struggled to develop and test their strategies. Much is now trivially easy to us using P123. Also gives an interesting insight into the early hedge funds.
[/quote] Outstanding! Informative and delicious read. Gets inside Thorp’s adventures and the misadventures of the hedge funds. The characters are fascinating: Claude Shannon, Thorp, Kelly, Scholes, Milken, Giuliani, various gangsters. Great examples of the Kelly criterion for optimal management of capital at risk. Thorp himself endorsed this book; need I say more?

My favorite quote, referring to Thorp & his partner Regan deciding to use a single broker instead of spreading trades around to avoid calling attention to their winning ways: “The important thing was that the broker be someone of unquestioned honesty and discretion. Regan found someone who seemed just about perfect. His name was Michael Milken.”

Finally, I wonder what Lindsay means by “trivially easy using P123.” Perhaps we can start a thread on the money management to follow up on that thought.

Another book which I liked is Jon Markmans Swing trading - he illustrates the trading styles of numerous gurus , Richard Rhodes, Bert Dohmen etc. Depending on individual preferences, an average investor can try to learn from the trading different strategies of the gurus.
Though it is not a book on fundamental analysis and money management, I felt the book was quite useful

From wikipedia some formulas that I cannot use (formula illiterate)
cheers
David

http://en.wikipedia.org/wiki/Kelly_criterion

I’ve got an interesting addition to this list which many of you will scratch your head and say - “what is this guy thinking”!!

Moneyball - by Michael Lewis. Every since I read that book, I started thinking more and more about what drives a stock price up (Value creation on the same thought process as “Runs Created”).

Has anyone read Data Driven Investing - Professional Edition by Bill Matson? Any comments?

http://www.mechanical-investing.com/data-driven-investing.html

http://www.datadrivenpublishing.com/

http://www.amazon.com/gp/product/0975584200/ref=wl_itt_dp/102-8128144-1565740?_encoding=UTF8&colid=1FDUHTY25779R&coliid=I2GXWOUBMZN9J0&v=glance&n=283155

Recently reading some outstanding books on how to systematically develop and test trading systems:

1. Thomas Stridsman:
(a) Trading Systems that work:
Very good book, with a whole chapter devoted to how to measure goodness of a model and then few chapters with example technical trading systems and followed by systematic analysis. Especially liked the idea that predicability of a system is more important than its profit potential. (In other words, strive first for systems with smaller standard deviation of returns, then look for max return). This reinforced the view I once read somewhere: Novices chase returns and risk eats them while professionals carefully look at risk and returns take care of themselves. The book systematically looks at the key parameters that can tell us the goodness of a system.


(b) Tradings systems and Money Management:
is a followup book with more detailed analysis but the first one is very good.
(c) Stridsman’s 10 rules from Global Investors rules book capture many of these ideas in concise prose.
10 rules

2. Weissman - Mechanical Trading systems: has an excellent chapter on how to avoid overoptimization and deal with outliers etc. Has very good coverage of pschological issues in why people tend to stray away from their trading systems recommendations.

3. Tushar Chande - Beyond Technical Analysis Second Edition
Outstanding book, I would say the best primer on Trading systems and the most concise and mature and data-driven approach. Surprisingly, the first edition is good too, but does not have good recommendations on Amazon. If you had time to read just one book, this is the one. (I am not in any way related to Tushar :wink: This is definitely one book that will teach you how to think about testing your system.

4. O’shaughnessey: Invest like the best (is from 1994)
but very fascinating introduction to how he went about reverse engineering the portfolio parameters of successful mutual funds. His latest third edition of “What works on wall street” gives some very good insights about market cap and about single factor simulations. I am sharing this because this is closer to the fundamental-ranking and yanking approach and reading it can provoke independent thinking.

OK, when rubber meets the road, what new insights did I get from these books, you ask.
Before I get to that, what are your answers to the following questions?

(a) Given two sims, which is better, one with more turnover, or one with less?

(b) Is a sim with 55% win rate good enough to make money?
Is a sim with 80% win rate prefered to one with 70%?

(c) My sim has a rule Mktcap > 100 and MktCap < 500. Should I use it? Why is this giving better returns than without the rule?

(d) Is a 5 stock sim better than a 10 stock sim? or vice versa?
and

now for the toughest and probably the most important question of all:

(e) How will you know if your model has stopped working? How can you distinguish whether what is happening is another drawdown or whether it is a breakdown because at least some market rules it exploits have changed?

My takeaways:

  1. Dont just look at annual return, look also at std deviation of returns. Very unusually high returns can also be caused by curve fitting
    (tuning the system ie changing its rules until it manages to pick the past winners). Do not tune rules to get rid of one loser here, one loser there. When you change a rule, it should improve most of the performance most of the time. Often, deleting a rule, accomplishes this. Which leads us to next one.

  2. Fewer the rules the better. Every rule, every filter on the market and stocks, reduces the degrees of freedom in your system. For instance if your model works well only for small caps and is below market for large caps, then probably your model is fragile and likely to stop working for small caps, unless you can clearly explain to me why it works for small caps and why it can never stop working.

This also leads to other idea, rules that make sense are better than rules that use numbers like Rank > 99.25. Also, test each of your rule with a ± 10 percent increment, it should still work well, even though it may not be the best. For instance if your ranking systems makes you 120% annual return when Rank > 99, For Rank > 98 and Rank < 99 it should make at least 80% and for Rank > 97 & Rank < 96 it should make at least 60%. Why? You can never guarantee that a real 96-rank stock might be misranked as a 99 or vice-versa.

Buy Rules limit the universe of your choice, your catchment area, so for some reason, if that area dries up, you are left out in the open. It is like a lion deciding, I am going to eat only rabbits. All-weather sims are better than market specific sims, because long-term consistent profits is the key to growing and preserving the gains.

At least understand your restrictive buy rules and make sure you have only very few of them, and with good reason. Sell Rules, I think, can be more and might be the key to consistent long-term profitable systems.

  1. More the trades in the sim, the better you can trust it, as far as a mechanical system is concerned. If a sim makes 500 trades in the last five years, it means it has picked up 250 stocks during different market cycles. The % winners, average gain expected, worst lost, drawdown and almost every statistic is more reliable and repeatable with this sim, than
    a sim that has rebalanced only once a year. (Turnover 100%).
    In general, of course.

This has been mentioned many times in this forum by Brian, Denny and others: The more trades a model makes, more reliable it is. In other words, like casinos, systems need enough trades to get the statistical edge.

  1. Good models should work comparably well in all market cycles (every quarter, say). For instance, a system that does 200% return in 2003 and 150% in 2004 but 25% in 2002 is not that great.

  2. Predictability is more important than profitability. In other words, first strive for a system that gives good returns consistently rather than great returns once in a while.

  3. Same rule leads at the individual trade level. Make sure your returns are not due to few big winners, but due to lots of small profits and the elimination of big losses. Stridsman says it well: Strive for mediocrity. One of the forum members wrote this once very well: You cant count on these rare winners happening again, so remove them from simulation. In fact, thinking along the lines led me to cutting your winners short to make sure your system does not depend on such big winners to become profitable.

  4. I am looking a lot more into the trade statistics now. Especially win rate, average holding period, av gain and av loss
    and gain/day and loss per day and experimenting with using these to set the sell rules. Actually, I am comparing these with Rank sell rules. I am experimenting with NOT using Rank to sell.

  5. Closely look at historical draw downs. Even if your sim had only a 22% drawdown back in 2002, try to walk through that closely week by week. Can you see, for instance, that it took 7 months for the portfolio to reach back to where it was? Do you think you would faithfully trade that sim week after week during those 7 months?

  6. The most important thing is to be able to detect that your model is losing its edge. This is also probably the most difficult thing. Though after a lot of thought, it seems possible. The way, it seems to me, is to look at things like, how often do you get 4 consequitive negative weeks? What is the probability that you will get 4 days of 3% dropping in a month? How often can you expect 5% drawdowns? 10%? 20%? In your sim, are the worst drawdowns early in its life or in recent times? If you have meaningful study of these, and assuming that your sim is a tamed and well behaved machine churning out small profits and small losses at regular intervals, then you can learn to ignore ‘expected drawdowns’ and be alert when the behavior of the sim is deviant. (Finally, it is all about mean-variance and standard deviation, My Dear Watson!)

Without such a study, you will not have the reasoned faith to follow your portfolio during its casino-runs, which you interpret to be coaster rides.

  1. Bottom line: Mechanical investing is more profitable than discretionary investing, provided you
    (a) absolutely convince yourself through testing that the system is very reliable and
    (b) follow every signal without exceptions, without trying to improve upon the returns of your model.
    The most hurting tendency is to selling winners earlier than the model says, hoping to catch them on a decline, but then not doing it and seeing that they keep moving up. Sims and successful discretionary traders make money by having on an average three kinds of trades - big wins, small wins and small losses.

Even though one should not trust sims that make 60% of their money from the big wins, I do think at least say, 30% of the money should come from top winning trades. A few of them are needed to wipe away the losses and give an extra edge. By selling them early, this opportunity is lost, leading to only having small wins and small losses. (The other even more harmful and the most prevalent tendency of letting losers stay for long to become big losses (anything more than 2% of overall starting capital per trade), I assume, most of us have overcome. If not, send me a Selfaddressed envelope (so I can share my experiences). :wink:

Consistency in strategy (no matter whether it comes because of you have what Buffett calls temperament or because of following a trading system) and making many many small bets and playing for the long run are the keys to making money. The exact opposite behaviors of chasing new tips, strategies and systems, making too large bets that either way shake up emotions leading to overtrading and oversize bets and dropping in and out of the game when one feels like it are the keys to losing money which all new-comers are blessed with and most traders and investors may not overcome in one life.


My appreciation for portfolio123 has tripled - (you can see how I have started thinking in quantitative terms :slight_smile: - after reading all the books, since this is one platform that can (a) help you get the statistical edge using FUNDAMENTAL analysis and (b) help you realize that potential with a trading system simulation and (c) test your hearts out with real data.

I apologize for having said so much of my personal reflection in this thread, and realize that for many of you reading this, this must be child’s learning (‘Welcome, Ravi, Who said the markets are easy?’). Still I wanted to share for those who might benefit.

Ravi

One other insight was that money management (deciding how much dollars to buy each stock or how much to bet at one time on one thing) is much more important than (a) stock selection (b) entry price (c) sell rules. In other words, what we need from the ranking system is a small but very reliable statistical edge.

Even though portfolio123 makes money management very easy, it makes the implementation easy, not the design. For example, 3 stock systems and 4 stock systems can give huge returns for short periods but will decay sooner than later or they swing too much drawdowns that we stop following them.

Money management includes several other things, such as starting capital. For instance, a sim, which averages 70% annual returns when started with 100,000 portfolio, drops to 40% when started with a 10000 portfolio. Why? In the first year or two, commissions steal away most of the returns! In fact, if you start with $2000, this sim may never see the light of the day! Power of compounding working against us!

This actually led me to experiment for the first time with a fixed amount investment. For instance, given a 20000 dollars capital instead of specifying 5 stock sim (by choosing percentage 20%), choose fixed amount and specify $5000. First year the sim buys 4 stocks and as it makes more and more money, in five years, it makes enough money to buy 30 stocks :slight_smile: spreading the risk over many stocks, limiting drawdowns.

Bottomline: While we must look for the holy grail ranking system (which means that its top rankers immediately turn profitable and grow the fastest in a short time and top rankers never ever lose money), there might not be such a measuring stick that works forever.

Instead, we might want to equally strive for a frictionless or lossless money managing strategy (which is deciding how many stocks for what amount and how to cut losses and how to let profits run and when to cut profits short) - as good as possible so that even with a suboptimal ranking system (as measured by % winners), the net results are fairly good and more importantly very very consistent. In order to do this a lot of experimentation has to go into % allocation, number of stocks in the portfolio and the sell rules.

What I am trying to emphasize is that this money management should be independent of the ranking, but rather, adjust itself to the results of the sim. For instance, a sim could watch its losers and winners over time and adjust its stop losses dynamically. It can see how much of its return came from the top 5 winners and adjust profit taking to ensure it does not get overheated. Over-optimization and curve-fitting is bad, but who said adjusting to live markets is bad? There goes my biggie feature request to Marco and team. It could be a feature where stops, position sizes, cash reserve (money allocation and sell rules) are all specified in terms of performance parameters measured over the last 50 trades, so the sim and the portfolio use those variables instead of hard numbers. :slight_smile:

I am sure in the vast world of trading, people would have experimented with such ideas.

Ravi

Ravi,

That was one of the best posts I’ve seen on this board. It should go in the knowledge base. Good work, my friend.

Brian

Thank you. I have benefited a lot more from this forum and hope to give at least as much as I learn.

I have gone back and re-edited my posts to clarify thoughts and add some more ideas.
Ravi

Thanks to Ravi and others for keeping this thread going, which I started over a year ago. Ravi, I particularly appreciated the references and pointers that are specific to systems development.

Coming off of my worst month in a long time (on the heels of a great 1.5 years – so don’t worry), I am even more convinced than ever that money management, position sizing and risk management are my personal holy grail. For those that feel similarly or even wonder if they need to look at these things more closely, I highly recommend Trading Risk by Kenneth Grant.

Perhaps more importantly, I have started keeping track of what I have read in the past two years or so in a more methodical fashion and have come up with the list below. These book recommendations are books I have recently read and are loosely grouped into categories, with similarities in each group. Each book has two ratings – based on a 10 point scale – my (highly subjective) assessment of value for a beginning trader followed by my assessment for an experienced trader.

A relative newbie should probably proceed from the top group down as far as they can continue to get value, but, personally I’d make the top 11 required reading at the outset and suggest that among the others, you don’t wait too long to read Mamis, Bulkowski and Grant, in particular.

Also, expect to reread many of these books as your knowledge base grows and you are able to pull different nuggets out of them.

Finally, you will find some bias here as it relates to my being an active trader (in addition to a LT investor) who focuses largely on position trading and has been using more T&A over the past few years.

Introduction and Context
Market Wizards: Interviews with Top Traders (Jack Schwager) – 10/8
The New Market Wizards: Conversations with America’s Top Traders (Jack Schwager) – 10/7
Stock Market Wizards: Interviews with America’s Top Stock Traders (Jack Schwager) – 10/7

Anecdotal / Historical

How I Made 2,000,000 in the Stock Market (Nicholas Darvas) – 9/5
Reminiscences of a Stock Market Operator (Edwin Lefevre) – 9/9

High Level, How To: The Short List
Fooled By Randomness (Nassim Taleb) – 9/8
Trade Your Way to Financial Freedom (Van Tharp) – 9/9
Technical Analysis of the Financial Markets: A Comprehensive Guide to Trading Methods and Applications (John Murphy) – 9/6
Japanese Candlestick Charting (Steve Nison) – 8/8
The Successful Investor: What 80 Million People Need to Know to Invest Profitably and Avoid Big Losses (William O’Neil) – 8/6
High Probability Trading (Marcel Link) – 9/9

High Level, How To: The Second Tier
Trader Vic–Methods of a Wall Street Master (Victor Sperandeo) – 8/8
How I Trade for a Living (Gary Smith) – 7/6
Trend Following: How Great Traders Make Millions in Up or Down Markets (Michael Covel) – 6/5
The Education of a Speculator (Victor Niederhoffer) – 7/7
Practical Speculation (Victor Niederhoffer) – 6/6

Detailed Individual Approaches

Fire Your Stock Analyst: Analyzing Stocks On Your Own (Harry Domash) – 8/5 …OR…
…Screening the Market (Marc Gerstein) – 8/5
How to Take Money from Wall Street: Learn to Profit in Bull and Bear Markets (Tony Oz) – 8/7
Trade Like a Hedge Fund: 20 Successful Uncorrelated Strategies & Techniques to Winning Profits (James Altucher) – 7/5
The Logical Trader (Mark Fisher) – 7/7

Too Often Overlooked: Managing Exiting Positions
When to Sell (Justin Mamis) – 9/9
It’s When You Sell That Counts (Donald Cassidy) – 8/8

Risk Control and Money Management
Trading Risk: Enhanced Profitability through Risk Control (Kenneth Grant) – 8/9

Value Investing Bible
The Intelligent Investor (Benjamin Graham) – 8/8

Thought Starters
The (Mis)Behavior of Markets (Benoit Mandelbrot) – 7/7
Devil Take the Hindmost: A History of Financial Speculation (Edward Chancellor) – 7/7
The Alchemy of Finance (George Soros) – 6/7

Reference and Miscellaneous
Encyclopedia of Chart Patterns (Thomas Bulkowski) – 7/8
Stock Trader’s Almanac 2006 (Yale & Jeffrey Hirsch) – 7/7
Choices, Values, and Frames (Daniel Kahneman & Amos Tversky) – 9/9
Fortune’s Formula (William Poundstone) – 7/7
The Vital Few vs. The Trivial Many (George Muzea) – 7/6

Options

McMillan on Options (Lawrence McMillan) – 7/8
Option Volatility & Pricing: Advanced Trading Strategies and Techniques (Sheldon Natenberg) – 5/9

Of Marginal Value…
A Mathematician Plays the Stock Market (John Paulos) – 5/3
The Master Swing Trader: Tools and Techniques to Profit from Outstanding Short-Term Trading Opportunities (Alan Farley) – 4/5
Swing Trading (Jon Markham) – 5/4