My Tao - Time and Timing

An old time friend of mine, Atle Øi, wrote an interesting and well written blog post on the impossibility of making money on trading the market. The logic was simple and clear. For every trade there must be a buyer and a seller. Both think they are doing the smart thing, yet only one of them is the winner. Unless we have information that the other doesn't, the chances of being the winner becomes a matter of chance. It's a toss up. To trade on the assumption that we'll be the winner is therefore a fools errand.

I happen to fully agree with my friend, and the dismal success rate of day traders prove him right. There's absolutely no money to be made in trading. The only winners are the market makers, the casino owners as it were. They trade both sides on behalf of clients, pocketing the spread between offer and bid for themselves.

At first glance, this contradicts the conclusion in my book on this subject where I list a number of ways in which it's possible to outperform the market by a considerable margin. However, on closer inspection, it's clear that there's no contradiction between Atle's observation and my conclusion, because Atle is writing from the assumption that markets are efficient, while I only assume them to be efficient in the short term. Over longer time periods, markets are not efficient, and we have substantial evidence to support this claim. The most glaring piece of evidence is the Dow/Gold ratio that has fluctuated between 1 and 80 over the last 100 years.

Financial markets move in great waves in which stocks can remain substantially overvalued for decades, and correspondingly undervalued for other decades. All that is required to make above average returns in stocks is to buy them with gold when they are historically low and sell them for gold when they are historically high.

The key to success is again to be found in the power of positioning and inaction. Disciplined investor don't trade. Our time horizon spans for decades, not hours, weeks or years. When we buy stocks, we do so with the idea to hold onto them for ten years or more. When we sell, we have no plan to re-enter the stock market for similarly long periods of time.

While this sounds easy, it does require a lot of discipline, because this strategy goes contrary to our deep rooted impulse to act. We are so hardwired for survival and the need to satisfy immediate needs that the idea of doing nothing for decades on end seems absurd. Making this even harder is the fact that this strategy requires action every now and again. Very long periods of inaction, interrupted by short but decisive action, is not the way we normally act. If we do not constantly do things, we tend to drift into complete inaction.

Habits are either constantly kept alive or forgotten completely, which explains both the short term efficiency of markets and their tendency to remain miss-priced for prolonged periods of time. The long term inefficiencies of markets are due to human nature. Only people with the ability to remain calm and inactive for decades on end without loosing the ability to act decisively near market peeks and troughs can profit from this inefficiency. However, it's well worth conditioning ourselves for this type of behavior, because the rewards that can be had are truly astonishing.

By Ángel Sanz de Andrés - Own work, CC BY-SA 4.0, Link