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The Rule: How I beat the odds in the Markets and in Life-and How you can too

Larry Hite is regarded as one of the forefathers of systems trading. He grew up as a dyslexic, partially blind kid, facing failure and struggle at every corner. Despite such background, he went on to found and manage, Mint Investment Management Company which at its time became one of the most profitable and largest quantitative hedge funds in the world. In 1990, Jack Schwager profiled Larry in bestselling book, Market Wizards.
It is a fascinating account of someone embracing his fears, frustrations, self-doubt and how this led him to accepting markets as they are. In fact, his familiarity with failure helped him manage risks better and become successful in markets.
There are some key lessons we can imbibe from his life and his market successes. Read on.

Create a system that you can put on auto pilot

At one time, due to an error of judgement made by his investing partner, Larry incurred serious losses and went into debts. He says

I looked at my debt and decided to go back and do what I really liked. I wanted to create an improved trading system that would remove human discretion entirely.
In due course he precisely did that, and he goes on to say

We all signed a written agreement that none of us could countermand the system. It was liberating to let go. I was driven not so much by greed as by laziness. I wanted money to work for me, not the reverse. My goal was to create a system I could put on autopilot so I didn’t have to anguish myself over the ups and downs of the market. This way I could sleep at night, and even better, make money while I was sleeping.

Markets are not efficient and trend following will never really die

Larry says,

Trendfollowing will never really die since there are very few people who are not afraid of losing.
Let that sink in. Much like Warren Buffett, Larry doesn’t believe in efficient markets and says

Efficient markets don’t exist and never will as long as humans are playing the game with greed and fear in a tug of war. What makes this business so fabulous is that, while you may not know what will happen tomorrow, you can have a very good idea what will happen over the long run. I don’t make money because I know anything. I only make money because I do what the market tells me to do.

You have to be comfortable with small losses while managing risk all the time

Quantitative Investing is a business. Losses are cost of doing business. Larry says

All major fortunes are built on a lot of small losses, which pave the way to big wins and success. I failed so often and so badly that I learned to get comfortable with it as a variable. Because I’d been a poor athlete and bad student, it never surprised me that I would lose. I would quickly accept it, fold my cards, and move on to come back to play another day. I recommend you practice losing money. In the long run, that will help you win big. If you are not comfortable with accepting small losses frequently, you should not invest on your own particularly in quantitative, trend following strategies.
Larry’s system,was based on controlling his risk to the downside so that he never loses all of his capital. He says
You can’t completely control outcomes. But you can control two things for sure. The odds of the bet you take, and the risk you take. If you keep placing good bets, over time the law of averages will work for you. If you keep placing bad bets, over time the law of averages will work against you.
His failure helped him win big. How?

I always expected to fail big. Solution? I engineered my actions so that a failure could not kill me. I won because I always expected to lose.
That may sound paradoxical, but is the single most key ingredient to success in investing using any kind of method. 

Backtesting is important 

Now, obviously, just because you get something right in the past doesn’t mean you will get it right in the future—historical testing has its flaws. Just the same, these simulations were highly valuable because using real market conditions—even in the past—gave us far better information than hypothetical scenarios of us sitting around the office guessing.

Drawdowns are a feature and not a bug

Based on Larry’s experience in running trend following strategies successfully, he makes it clear that

Be prepared to lose roughly the size of your annual return. For example, a strategy with a 10 percent return over time should be expected to suffer at least double the annual return in a 20 percent drawdown—so a strategy with a 30 percent return over time should be expected to suffer a 60 percent drawdown.


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