Finding An Edge in Life

Perhaps the most puzzling thing in my Temporal Spatial Arbitrage post was the idea of having a trading edge in life. That may be a great idea, but if all decisions in life are considered trades what on earth would an edge even be?

Reading the literature on success one could reasonably conclude that self-control, perseverance, and focusing on the process are the recipe for achieving goals. As far as that goes, I agree. It’s hard to get very far at anything without those qualities. But none of them have much to offer when it comes selecting what trades to make in life. Without some other elements, achieving what everyone else does, in largely the same ways they do, will be the most likely achievement. Why? Because your direction will be set by others, by societal custom, social expectations and pressures. Unfortunately, the odds of that being ideal for you – or of finding a shortcut to where you want to be by going along with that – are rather slim.

What else do you need? I think these are the main qualities that contribute to having an edge in Temporal Spatial Arbitrage, all interrelated:

  1. Self Knowledge. One of the biggest problems humans have is that we are very poor at predicting our emotional responses to future situations. Operating with faulty assumptions about how we will feel, we often reach our promised land only to find it wasn’t worth the trip. The better you know yourself the more likely you are to make the right choices for that future you. Yet no matter how well you know yourself, asking friends and family what outcome would most suit you will still very often be a better predictor than your own opinion.
  2. Adaptability. When the environment in which you’re operating changes, you’re able to quickly jettison your baggage and go with the flow. It may not provoke much envy but the less income you need, the more options you have, and more options equals greater adaptability. Minimalism can be very helpful, particularly since it often means less debt, plus it helps decrease your daily mental load.
  3. Independent thought. If you aren’t comfortable going your own way, it’s almost impossible to optimize your life. It’s tempting to call it being contrarian but too often that’s seen as going against the crowd regardless the situation. Truly independent thought is only intermittently divergent. Certainly, fitting with your personal ecology is important to a good life (see here), but that should influence implementation more than direction.
  4. Ability to vary perspective. Ideas precede actions. Therefore, significant change can’t happen without first seeing something in a new way. Creativity is only part of it. If the way you look at things is similar to other people, you will be condemned to following in their footsteps, albeit loosely, no matter how many new ideas you can generate. In the same way as forcing a smile can make you feel happier, changing perspective can be as simple as sitting in a different chair, facing a different direction when you think about a problem.
  5. Self Confidence. Every person is unique in the universe, so creating the ideal life requires going into uncharted territory to at least some degree. This necessity is much easier to embrace if you have confidence that no matter what happens you’ll find a way to make it work. Sadly, for some people this confidence will be misplaced. Happily, that number is far lower than an opinion poll would indicate. Experience is generally the best path to confidence, but don’t forget humans didn’t get this far without a remarkable ability to cope with disasters large and small – and often self-inflicted – so failure is nothing new and most often survivable.

Unfortunately, it’s not as simple as having the pieces and, voilà, everything changes. The qualities above are somewhat circular: Significant self-directed life changes aren’t going to happen without them, but if you don’t already have them to some degree the odds are low that opportunities for change will be identified in the first place.

Learning to be a successful trader certainly helps. Trading in the markets is a mirror of your inner mental life. Learning that the battle is with yourself rather than with the market is a major milestone in any trading career, and one which can have a multitude of positive spillover effects. Even if you decide it’s not what you like doing, or never make much money, it alters how you see the world and yourself, and improves the ability to find new opportunities in new places.

Ultimately, I think some sort of trigger is needed to crystallize all the pieces into a new world view. What that trigger could be for a particular person can’t be predicted or prescribed, but given time life is almost certain to present a suitable crisis for those on the verge. In the meantime, act like a two-year old and always ask why. It gets irritating when they do it, in part because they frequently succeed in demonstrating you really don’t know what you’re talking about, so avoid their noise and smell and provide that service to yourself. It’s shocking to discover how often you don’t know what you’re talking about regarding your life, and how much of what you do has been adopted unexamined.

Why do you need that job? That person in your life? Why do you need to spend your time doing that? Even if you are the hyper-analytical type, thinking you have all the questions answered, with a 10 year spreadsheet full of variables and assumptions for inflation, income, expenses, taxation, and a target retirement income (and I’m not admitting anything), it’s the unstated, unquestioned assumptions that will be the killers. For spreadsheet gal, can you truly stand getting out of bed each day, doing what needs to be done, where it needs to be done, to hit the needed numbers, when the entire exercise is motivated by the desire to escape from that grind to retirement as soon as possible? Probably not. Then there’s the idea of retirement; that hazy, unspecified paradise that awaits somewhere beyond the world you currently inhabit. Perhaps you should start asking a few questions about that too…

Why? Because I said so.

Missing The Point

“Life’s like a jigsaw: You get the straight bits, but there’s something missing in the middle.” – XTC, All of a Sudden (It’s Too Late)

No matter what you do in life, someday you will cease to exist and quickly be forgotten. That truly sucks, yet what’s often missed in focusing on that end point is this: Everything that happens before then is the meaning of life. It can’t be bought, read online, or discovered in some ancient text. The meaning of life is what you make it. No more, no less. Rather than emerging fully formed from an event, action, or sudden epiphany, it slowly emerges bit by bit from the choices you make each day, both large and small. If life lacks meaning, the answer is to make different choices.

It can often seem impossible to change much about your life, no matter how empty and unsatisfying it has become. For young people, graduation is an obvious time for making big choices about the future. Later in life it’s much less obvious that each day brings a significant choice whether to continue with what you’re already doing. The number of “important” things demanding your time and attention can easily obscure other options and make falling into a meaningless rut the default simply because it quickly reduces the cognitive load to a bearable level. Each new responsibility brings with it a basket of behaviors and justifications that make significant change increasingly difficult.

People convince themselves they need A,B, and C before they can do or have X,Y and Z, and follow those assumptions, sometimes for decades, never questioned their source or utility. Not everyone is a drone pilot reaching the breaking point when the weight of murdering innocents eventually becomes inescapable. Most crises of meaning are more easily diismissed and postponed. Yet every postponement is wasting another part of your life.

The top five regrets of the dying was one of the most popular links I ever posted and for good reason. It’s hard to come up with a better test for how you spend your time. If you wrote down everything you did for the previous week, how many things would address any of those likely regrets? What would it say about what you’re making your life mean?

In accounting, a sunk cost is one that’s already been incurred and can never be recovered. Time invested on any path in life is a sunk cost. No matter how much time has been spent on something (career, relationship, etc), it’s irrelevant to decisions about the future. All that matters is whether something moves you toward the meaningful life you want, or away from one you don’t want, from this point forward. Don’t dawdle, dillydally, procrastinate, or worry about what the neighbors will think. Your life is an all too finite resource. Spend it wisely.

Backing Over Retirement

How much money you will have for retirement depends on only two things: How much you have to invest and the return on investment, i.e. Nest egg = Money to invest + Return on investment. When it comes to retirement planning I think people too often treat the size of the nest egg they need and how much they have to invest as given, then back into the return they need to make the numbers work. From there it’s a matter of taking on enough risk to meet those expectations [1].

I think this approach is dangerously backward. For a host of reasons, people tend to devote far too much time to things over which they have little control while ignoring those over which they have sizable control. In investing for retirement it often looks like this (ranked high to low):

Degree of Control

Time Spent

1. Amount spent and saved 1. Return on investment
2. Amount needed to retire 2. Amount needed to retire
3. Return on investment 3. Amount spent and saved

Although it’s psychologically appealing, focusing too much on returns often fails due to one cold, hard fact: The universe and the market don’t give a rat’s ass what return on investment you need. There’s no guarantee you were born at a time and place where the return you need can be achieved by anything other than reckless gambling and luck – and the higher the required return the more luck you’ll need. Even an ostensibly realistic return goal (like 4% per year over the next decade) may not be achievable in practice. The psychological strain of volatile returns can make even conservative goals extremely difficult to achieve, and adding leverage or riskier assets only makes the roller coaster worse.

The better solution is to put yourself in a situation where you need as little return and luck as possible.

1. Save more money each month. Yup, that again. In basic terms return = cash + beta + alpha. There’s an excellent case to be made that alpha approaches zero (typically less than zero) over the long-term, while beta is simply another term for increasing risk, which leaves saving more as the only safe and reliable way to have more money in retirement. It’s not glamorous or exciting – Ray Dalio gets the press, not the person squeezing $5K a year in savings out of a $25K income. Yet a low-income penny pincher is relying more on skill than any stock market wizard, as well as generating a near certain [tax-free] payout. Who’s the genius now?

1a. Get out of debt. Paying off credit card debt can often yield double what Bernie Madoff was promising but with zero risk, guaranteed, in any market environment. What more do you want? You should fire yourself if you miss that trade.

1b. Make more money. I think most people are already sacrificing as much time to the pursuit of money as they can tolerate. However, keep in mind 21st century technology has made it easier than ever before to make money on the side. It’s hard for an old fart like me to believe that spending an hour writing a stupid Facebook app can generate $200 a week in ad revenue, but it can and it all adds up. Keep it at the top of your to do list and don’t rule something out simply because it seems unlikely at first glance. The entire Web 2.0 sector seems ridiculous to me but that hasn’t kept people from making equally ridiculous money from it.

2. Be a true pessimist in your projections.Whether the macro environment smiles or frowns on your investing life, there’s nothing you can do about it except to be unbelievably conservative in your projections about the future. I really do mean unbelievably. In the late 70’s and early 80’s who would have believed <1% money market yields for years on end? If your projections seem comfortably correct, they’re almost certainly wrong. Things will always go wrong, occasionally wildly wrong, so preparing for the worst and hoping for the best is always good financial practice.

3. Redefine retirement. This is the most unexplored avenue to retirement, largely because it goes against the shallow beer commercial portrayal of a life of leisure. Yet taken to the extreme it can allow you to retire tomorrow. Many people have only the vaguest notion of the details of their retirement, mere fragments of a hazy dream. Exactly what do you see yourself doing with your time each day (potentially for decades)? What’s the difference between work and retirement? You need to get paid either way. Is it getting paid by a nameless market rather than a specific person? Is it a matter of choice versus necessity? How much choice you do ever really have? It may not have been featured in your retirement fantasies but you’re going to end up doing something, if only to avoid losing your mind [2], and if you’re doing something why does it always have to be no charge? Help out a former colleague, try something new, be the first 80-year-old guy working at Victoria’s Secret. When you actually get there, I think the odds are high your retirement can produce income from something other than investments, without the constraints of ambition, career and responsibility. Consider it diversification. Is that the stuff of which dreams are made? Maybe not, but it can still be a very satisfying and liberating reality.

If you can generate a high return on your investments, congratulations! But don’t bet the farm and gamble away your nest egg on boosting returns when there are virtually risk-free alternatives. Being a mindless part of the herd is as dangerous when thinking about your retirement as it is in any investing decision. Continually redefining your retirement, your needs, and yourself will always yield a much more interesting life than nodding off in a rocking chair, no matter how great those arthritis pain pills make you feel.

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[1] In some cases this strategy be written as: Money to invest * = Needed retirement savings.

[2] The opening scenes with Michael Caine in Harry Brown do a great job of showing how dreary and empty the daily routine of actual retirement can be. More importantly, people who are disconnected from society, without meaning and purpose, tend to die sooner (and I think the downsides of that outweigh any cost savings).

Don’t Show Me The Money!

Money can blind you to the good bits of life

Money may not be the root of all evil, but it is the root of many poor decisions. Despite every attempt at cold, steely rationality, everything changes when money is involved. It’s no coincidence that arguments about money are one of the most common marital problems. Dealing with money is difficult. We weren’t designed for it. Once the “money” label is attached to a number it invokes a host of decision biases. How much, how little, what to do with it, and how the balance has changed can not only change decision-making but how a person feels about themselves.

A dramatic example of this is the famous Depression-era speculator Jesse Livermore. According to his suicide note he took his life because he felt he was a failure, presumably due to losing the bulk of his sizable fortune. But he died with $5 million in various trusts and assets, the equivalent of $82 million in today’s dollars. I suspect if he’d been told at the outset he would end up with that amount he would have volunteered in an instant. But the meaning he attached to those numbers and how he reached them made it intolerable.

As Livermore highlights, money plays a starring role in decision biases and The Big List of Behavioral Biases lists over 100 to choose from. There is some overlap from academics trying to make a name for themselves with their very own decision bias, but it’s clear the more that money is the focus of your life, the more biases will bedevil you. Trying to keep in mind 107 biases to avoid while making a decision is impossible. Keeping money out of mind is a more achievable solution, though it’s often easier said than done.

Decisions have been shown to use different areas of the brain when money is at stake, and the greater the stakes the worse the typical performance. Evolution has given us wonderful heuristics for avoiding predation, finding food, and improving mating success, but very few that work when dealing with the dynamics of global financial markets reflecting the valuations of billions of people (many of whom are hunting your money).

The quantification that money allows often encourages a false sense of precision. If X then Y. If I make $X dollars this year, have $X in the bank, or have $X for retirement, then: I will be happy, I’ll have no worries, people will respect me, I’ll have a great retirement, I can do what I want. It’s a seeming mathematical certainty which is almost entirely illusory. Your feelings aren’t a market with buyers and sellers competing for scarce resources. Any prices you attach to your hopes and dreams are pure, arbitrary nonsense.

Ignoring that admonition can lead to price tags on everything in life. Your self-worth, how you spend your time, what you consider worthwhile, and even your relationships can come to depend on the balances in your accounts. Further, accounting is necessarily focused on the past, so whether it makes you feel good or bad, there’s nothing that can be done about it. There is no hope without the possibility of change, so obsessing about your numbers can only lead to hopelessness.

Short of becoming a hermit in the woods, dealing with money is unavoidable in modern life, and doing so successfully requires focusing on it to some significant degree. Yet focusing on it will mess with your head. It’s a catch-22. Fortunately there may be some ways around it:

  • One strategy, as Bruce Bower wrote in What’s Your Number?, is to focus on the process and enjoy the aspects of it that lead to success, rather than focusing on specific monetary goals which are often more a distraction than a help.
  • Another response is to avoid absolute numbers and use percentages, ratios and other measures which disguise the potentially mind twisting amounts with which you are dealing. If your profit factor is 3.27, it really doesn’t matter whether you’re dealing with $100 or $100 million; you’re doing what you need to do.
  • If necessary, delegate all the accounting functions and only allow yourself to see sanitized performance reports showing the quality of your decisions, not the quantity of money involved (but keep full control over the accounts to keep your money from disappearing with your accountant).
  • Everyone does better in some situations than others so self-knowledge is vital in avoiding monetary decision traps. For example, some trade better when ahead, others from behind and artificially creating those situations can prevent unnecessary losses. If you focus better when climbing out of a hole, periodically take enough money out of your account to get your mind where it needs to be. If you do better when you are up, consider splitting your risk money into two accounts, with one as a reserve gas tank to replenish the main trading account when losses start to mess with your head.
  • It’s often difficult to be objective when thinking about yourself and your money, so ask yourself “Would a great trader/investor take this trade?” By focusing on what someone else would do with their account (which you care nothing about), it’s easier to be objective. You’ve probably read about many great trades but the default scripts that govern your behavior and attitudes often keep you from capitalizing in similar situations. Think of George Soros, Ray Dalio, or whomever you prefer, and use how you think they would act to write a different script.
  • The duty to others can help hurdle decisions that are difficult when they only involve your own welfare. Whether you simply focus on doing it for the kids, or actually trade your wife’s 401(k), invoking a sense of fiduciary duty will often trigger a more useful set of responses and motivations.
  • Reframe it. Going from zero to $5 million is great. Going from zero to $100 million, and then to $5 million is horrible. It’s the same ending either way but the feelings attached to it depend on how you look at it. Change your perspective and change your mind.

Dealing with money will probably always be difficult but money is just a label attached to a number. What it does to you depends not on the money itself but how you view it and respond to it. Ultimately those are things you can to some degree control.

Now, as a quick test, look at the above picture again to check that you can see more than money.

Speculating in Life and Markets

Trading and life are both unavoidably speculative ventures. The future is always unknown and every choice is made in uncertainty. It stands to reason that dealing with life and with trading and investing should be very similar. Yet it often doesn’t work out that way. As Josh Brown wrote in Nine Financiers, “…The life of a professional speculator is an unpleasant one, filled with highs and lows but ultimately unsatisfying and, in all probability, mentally ruinous…” It’s not a very alluring sales pitch. But even though life beyond the market can be quite brutal as well, relatively few people view it in similarly stark terms. Are people overlooking the difficulty in life, or focusing on the wrong things in trading?

The most likely answer is both. Perceptions, and the resulting emotions, make all the difference in the quality of experience. Humans have an inherent optimistic bias in life. Evolution favors those that keep trying despite the facts in order that a few may get lucky. That bias can get derailed in trading and investing because the market is in some sense designed to prey upon our inherited decision-making heuristics. But that doesn’t mean it should be an inherently intolerable place. Life can be made as hectic as any trading day, or trades can come as rarely as you wish. Responsibility can mean burden and blame, or the freedom of controlling your own destiny. A loss can be a mortal wound to your inner self, or simply the act of buying an admission ticket. Money can be the focus of your life, or just the means to enhance it.

People bring the same basket of personal qualities to all of life. Troubled trading means a troubled life; a troubled life means troubled trading. They are both a reflection of you. At the most fundamental level, markets of all kinds exist to facilitate getting people what they want. If that’s not happening, the solution to your troubles is most likely to be found by looking in the mirror.

Venn Diagramming Life

Life is the sum of the parts, but that doesn’t mean it can’t seem like more. If you’ve been on the planet for a few decades there are probably periods in your life where things flowed so easily life seemed effortless and even magical. Other times it may have seemed like an unending torture. How do you find the path to that easy life?

Unfortunately, the current path of least resistance is rarely the best guide. It will lead to a fleeting local improvement but may very well end up in a dead-end with no easy way out and prevent you from ever reaching a global maximum. Your relationships, values, beliefs, jobs, interests, goals, and a host of other factors create your experience in life and finding a way to balance them all is the key to a good life. .

Using Venn diagrams where each circle represents a significant factor in life, the best and easiest life exists in the intersection of all that have any significance to you. In this very simplified example, #1 could be your wife, #2 children, #3 goals, #4 career, and #5 recreation. If everything is properly aligned, there is a sweet spot available where each in some way reinforces the others, and none takes so much away from another that there is no longer an intersection:

If nothing ever changes in your life, it’s just that easy. Otherwise, the factors and their intersection are an ever-moving target. Later in life the kids move away, former goals are no longer as important, the career is almost over, and recreation takes a more prominent role. But there is still an intersection of all parts of life. You wife won’t go base jumping off skyscrapers but bungee jumping may work. It’s a different balance, but life is still good:

Problems start when things shift too far or a new element is added that no longer allows all the elements to intersect. For some, trading may be element #6. It may fit with goals, career and recreation – if you enjoy the trading process, but trading may also turn you into an emotional wreck and take too much time away from your family and other things you enjoy:

What are the options? Either change your style of trading to be more congruent with the rest of your life or stop trading. The solution is easy, but recognition is often a problem. Other choices in life aren’t as easy to solve. Many men add a mistress because something is missing from the rest of life. But unless everyone agrees to a free love commune there is no intersection possible until some element is sufficiently adapted or eliminated. Figure out which element is the outlier and what positives it’s giving you and then find another way to get them that’s more aligned with the rest of your life.

The worst case is where almost none of the elements of life can be in agreement. A person’s life is in such chaos they are a danger to themselves and others:

I’ve worked with a few people who fit this category and they were always accidents waiting to happen. So much so, I didn’t want to be anywhere near them. Whether due to their subconscious trying to fix everything without conscious consultation or due to poor decision-making skills and impulse control, people in this state are frequently unable to get things on track. If you are in this situation, change something. Pick the easiest to improve and start there, even if it’s only the sequence used to put on your shoes. Get more sleep. Your life is a mess and you need all the energy you can to address it.

The big decisions in life always seem to involve two or more factors that are of near equal importance which don’t play well together. But this isn’t a given, it’s most often the result of prior choices and actions. Choices are often put off, or the need to make a choice goes unrecognized, until life has drifted into substantial conflict and drastic actions start seeming reasonable. Be proactive. Think of all the elements of your personal Venn diagram and how they intersect. By striving to keep them in balance, making small adjustments as you go, and always thinking of that sweet spot where everything flows easily, you’ll stay much closer to the right path as you blunder through the twists and turns of life.

Make no mistake, despite how it might appear, everyone blunders through life. The trick to making your own luck and creating a good life is largely in putting yourself in situations where good things happen. Whether you call that the right path, the easy life, the good life, or being one lucky bastard, X marks that spot.

A Brief Note on Expectancy

Positive expectancy is the true holy grail of trading. Regardless of the methodology used, if the odds aren’t in your favor you’re doomed. But this focus also obscures a broader truth: Life itself has a negative expectancy. Start with life, end without. A certain loss which no strategy can circumvent. How do you salvage this trade?

To maximize returns when forced to play a negative expectancy game the best strategy is to make one bet and go all in. Nature has already put a hard limit on how many times we can play the game, so the only choice left is how many chips to put on the table. Don’t hold back.

Follow the example of casinos in keeping people coming through the door for negative expectancy. By making it entertaining and exciting, by focusing your attention on something other than just money, you may not even notice you’re being fleeced.

[I’m still looking for the free buffet.]