No Way Out
Welcome to the No Way Out podcast where we examine the variety of domains and disciplines behind John R. Boyd’s OODA sketch and why, today, more than ever, it is an imperative to understand Boyd’s axiomatic sketch of how organisms, individuals, teams, corporations, and governments comprehend, shape, and adapt in our VUCA world.
No Way Out
Rethinking Market Narratives: Mastering Trend Following with Alex Krainer
What if the key to exceptional investment success is challenging everything you know? Meet Alex Krainer, who turns conventional wisdom on its head with his unique perspective on trend following. Through a captivating exploration of his journey from academia to navigating the unpredictable waters of financial markets, Alex urges us to question the accepted narratives. He shares gripping stories from the dot-com boom and oil price shocks, illustrating the futility of relying solely on predictions and the importance of adaptability in an ever-evolving financial landscape.
Join us as we unravel the concept of trend following, a strategy that emphasizes consistency over time despite short-term setbacks. We draw captivating parallels to sports and entertainment, underlining that perseverance and embracing failure are the cornerstones of success. Delve into the mechanics behind price-based trading strategies, where Alex explains how systematic approaches can outshine traditional market analysis. By focusing on price movements over fundamentals, traders can diversify across markets, from commodities like coffee and crude oil to digital assets like Bitcoin, free from cognitive biases.
Turning to the realm of asset management, we explore the hidden trend-following nature of renowned investors such as Warren Buffett, challenging the perception of them as purely value investors. Alex also offers insights into the psychology of personal investment, emphasizing the necessity of a strategy to navigate financial complexity. From managing geopolitical tensions to mapping market trends with machine learning, this episode is packed with insights that challenge conventional thinking, promising listeners a deeper understanding of financial markets with a strategic edge.
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So I think you're the second person I've ever met that lives in Monaco, so we want to welcome you to the show. We know it's not a very big area and, of course, all we know about it is Princess Grace and the Grand Prix. It's also a pretty good port of call, if you're stopping.
Mark McGrath:Alex, you look at the world through a much different lens.
Mark McGrath:When years ago, when I read your trend following Bible and your book about uncertainty and commodities, it resonated with me and I know it would resonate with Ponch and others that we talk about, because it provides basically a framework of how to look at things differently, knowing that you can't know the future, you can't know what's going to happen.
Mark McGrath:You can only anticipate and be ready to make moves and involved with that, and we're going to recommend your sub stack and people look at your trend compass and things like that. I mean you clearly look at the world in a much different way, which is interesting because I think it challenges assumptions, and a lot of the assumptions that we get in the mainstream from the media and others need to be challenged and I think that you do a very good, a very consistent job of that. So that's how I knew of you and we're grateful that you come in and spend time with us and share some of that insight. And what would you share with our listeners and hopefully help them to shatter their models of what they think things actually are and start to be more curious and ask more questions about what, the way things actually are, not what's portrayed to them, if that makes sense?
Alex Krainer:well, okay, so I'll rewind the clock to me graduating from a university, and I was. I was the geek's geek, you know, I was the nerd I that graduated magna cum laude, top of the class, and I thought, you know, I applied myself because I believed all the crap that we were being taught in school. Right, I thought it made sense, it was well packaged up, my parents paid for it through their nose and then I got into the world. And then, you know, you get slapped in the face, you get slapped around a little bit and then you realize that everything you were taught isn't exactly what you need to know. And then, the farther you go, the farther what they teach you in school and what you experience in life diverges. And well, eventually I found myself in a job of market analyst for an oil trading company. Well, it was principally oil trading, but we traded other commodities as well. And so here I was. You know I got everything I needed. You know the computer systems, the subscriptions to this, and that I was immersed in a lot of. You know fundamentals data and I was going to work it out how to trade the markets supply, demand. You know fundamentals data and I was going to work it out, how to trade the markets, supply, demand. You know this and that, and of course none of it worked. And it was a particular point in time. That was, you know, it was a. It was a. It was a teachable interval, not moment, but interval. It was 1990s.
Alex Krainer:I started working at this oil trading company in Monaco in 1996. And so in 97, the company was started by guys who you know have been trading since the 70s, old hands, and they barely knew how to switch on the computer. And they asked me, since I was the most computer literate, to tell them no, to figure out a way to analyze the markets more systematically, because what they had in mind is to produce, let's say, high probability, short-term forecasts of where the price might go. So I don't know, oil price is 75 bucks a barrel today. If we could know with an 80% probability what it might be over the next week, then hey, we could trade that. And so I very quickly realized that that didn't make any sense at all. There's just simply no way to predict future events with any degree of probability. You can calculate all those things on the basis of past data, but there's no way that you can project that into the future and say, because of that old data, then the future is going to look like this.
Alex Krainer:But what was happening at that time? So in 1997, crude oil was trading in the, let's say, low 20s $20, $22, $23 a barrel and you'll recall that that was the time of the dot-com boom and so the economy was going on all cylinders, it was growing. It was really a good time for the economy, really a good time for the economy. And so we in the oil industry sat there and thought there's no way that the crude oil was going anywhere but up, because also at the same time, the capital was favoring technology investments and internet and biotech and communications and all of these things related to the emergence of the internet, and so the investments in oil exploration, refining, distribution, all of this was constrained. So everybody in the oil industry but everybody knew that the oil prices were going nowhere but up. And then, over the next two years until the start of 1999, they more than halved, they went into single digits. It was almost a straight line. So if you can imagine going to work to an oil trading company for two years, and for two years you're wrong and you're getting your teeth kicked every day, it's not a whole lot of fun. And then also, in this same teachable interval, we had the NASDAQ go practically vertical and since the day I started in the job everybody was complaining that the equities were overpriced, that it's all going to crash.
Alex Krainer:It was in December 1996 that Alan Greenspan gave that speech about irrational exuberance, right, and then from that moment until the peak, I think that the NASDAQ went up something like four or five times and it added 110% in the last five months of that rally. So again, even on stocks we were wrong this whole entire interval from 96 until 2000. And I was there with know I was, I was given a budget, I hired some you know some software people and some science, you know math guys, and we were working all these theories and trying to somehow integrate the fundamentals and discern probabilities and and nothing was really you know like nothing really seemed compelling, except that these huge trends were staring us in the face the oil price going down even though everybody knew that it had to go up, and the equity prices going up, even though everybody knew they were overvalued and they had to crash. And so I thought what's the point of complaining that the markets are wrong, because we got it right when we're losing money right? Isn't the whole point of trading to make money? And so I said look, it's moving with the trend. You think everybody's stupid. But the price is going down, the oil price and the stock prices are going up, so why don't we try to make money rather than trying to prove how we're right and the whole market is wrong? And so you know, that's when the light bulb went off in my head, and then, from that point on, we started thinking like okay, so if markets move in trend, then what are trends? And so, of course, there were already hedge funds out there who were using trend following for decades.
Alex Krainer:I just didn't know anything about this. I was in the commodity space, but physical, you know. We were literally moving tankers around, and so we didn't know anything about this. So we basically started from a blank sheet of paper and my take was okay, if I look at a price chart of something and I arrive at a judgment that this is an uptrend or this is a downtrend, then I assume that my brain must be doing some kind of a trigonometry in my head that produces this judgment. So I said let's try to work it out what it is and reverse, engineer something that is maybe similar, but with the advantage that it can work numerically, without distraction, without fear, without greed, you know, without any kind of emotional distortion. And so that's what we did, and we kind of came up with like five tentative definitions of what could make a trend, and then we designed algorithms around it that did those calculations. And then we tested it and the system was doing what we wanted it to do.
Alex Krainer:And then you know, obviously you know this was, I would say it's a form of artificial intelligence because it generates judgment first, and judgment is something that fluctuates. It's not a yes or no answer. It fluctuates on a range of confidence. You can be certain about something or you can be completely ambivalent. So we said, okay, certainty is going to be one, ambivalent is going to be zero, and every day we're going to have some value that goes between one and zero. And so we you know, this trend confidence function ended up doing what we wanted it to do, except now that we made it numeric, it had the advantage that we could now say like okay, so let's now see what level of confidence justifies risk taking. And so we set the thresholds and we said like, okay, when confidence is this or higher, then we go long. And then you know, in the inverse, if the trend is down, if it falls below some threshold, then we start trading short. And what turned out, what came out of this, is that the best trading results we got when the confidence was less than 50% right Now.
Alex Krainer:This is the advantage of the machine, because as a human, it's very hard for me to take risk when my confidence is very low. As a human, it's very hard for me to take risk when my confidence is very low. So, as a human, you know you sit there. And when your confidence is full on, that's when you're ready to trade. But that's maybe when you're too late, when most of the you know the trend is obvious, so you risk coming in near the peak. So that's you know. That's how I went into trend following and it made perfect sense to me. So I pretty much remained committed to trend following the rest of my life, and I still am. And not only is this now my bread and butter, my daily bread and butter, I've also found that trend following is an excellent school of life in general.
Mark McGrath:Tell us more about that. Unpack that a little bit.
Alex Krainer:Okay, I'm glad you asked. Well, you know, first of all, any worthy endeavor in life that you want to tackle, that you want to give yourself as a challenge, you have to take risks right. So, with trading, if you want any profits, if you want to generate positive returns, you have to take risks. Risk-free returns are what everybody gets, the illusory let's call it three percent that you can get from, I don't know, treasury bonds. Maybe it's a bit more now four, four percent, but you know that's that. And then you don't move, except that inflation is eating at that. So you're mute.
Mark McGrath:You're mute mark yeah, so basically just like holding your cash and doing nothing. Yeah, exactly, that's the risk-free.
Alex Krainer:Risk-free is like mattress so long as it doesn't catch on fire Right. And so, if you want to generate positive returns, you have to take risks. And then, if you take risks, you have to make certain decisions, hopefully formulate some kind of a strategy about how you're going to go about this strategy, about how you're going to go about this. And then, when you implement that strategy, maybe you're going to get lucky and things are going to go your way and you're going to be redeemed. Or maybe you're going to hit a lousy period and it's going to go against you. And now you're going to have to ask yourself well, crap, either I went out at the wrong time, so the market conditions are unfavorable and I'm losing, or my strategy is wrong, my strategy doesn't work, so you're going to have to. You know like it's a time of deep introspection. And then you know, you do your homework, you revise your strategy, you look into all assumptions that you made, you look at the algorithms that you built. Is everything, do I still believe everything that I have in my autopilot programmed in? And then, if you still agree with yourself, right, if you haven't lost faith, if you still agree with yourself, right, if you haven't lost faith. Then you have to decide do I persevere or do I quit? Do I want to not do this anymore, because it's painful to be losing money in the markets, right? So you have to decide do I persevere or do I quit? And if you quit, you cut it off at a loss and you go do do something else, defeat it. Or if you persevere, maybe you reverse the losses and you carry on. And then you have to also decide how much do I risk on every individual bet? What do I expect to get back? How long does my dry powder have to stay dry? How long is the famine interval going to last? When is the feast beginning? How do I manage the feast? You know, like it's all, it's I.
Alex Krainer:When I was a kid, I used to play water polo. Water polo was my sport, you know, and you know I went, we went into competitions and tournaments and played. It's very similar. You know you have to work hard, you have to train, you have to practice, you have to be prepared, and then you have to play and face adversity and the uncertainty Are you going to win, are you going to lose? And then you know, you manage the euphoria of winning and then you manage the let's call it the distress in losing and you have to learn how to digest that.
Alex Krainer:And you have to learn how to stay focused and centered and keep true to your strategy, what you're doing, not succumb to despair, not lose your head in successful days. And you have to earn the success by sitting through maybe long periods of adversity and doubt and soul searching and all of that. And then you also learn that it has a different temporal scale from what you envision in your mind, because in your mind you think like, okay, I trade and make money. Yeah, okay, but that's a long time that might take.
Alex Krainer:Many, many Trend followers are reliable over periods of time that are three years or longer, whereas any given year or six-month period or month could be negative. So let's say, to have success you have whether you do sports, whether you do music, whether you're a stand-up comedian or a lawyer or anything you have to go through that and to become successful you have to kind of know what you stand for, what you're doing. You have to present yourself as that to the market, to the potential clients, to present yourself as that to the market, to the potential clients, and you have to face the reality that they're not going to all fall for your offer and become clients on your first attempt. You might have to circle around many times, take many rejections and digest many failures before you start to see the thing turn around and then grow more robust and more, let's say, more resembling of a success.
Mark McGrath:It's now avoiding the risk or the work, in other words.
Alex Krainer:That's right, and you realize that if you want to avoid the risk and the work, then it's slow death. You know what I mean. You're already losing, because I think it seems to me that life, at least in the matrix in which we live, life is kind of a slow river that's always taking you downstream. Where you want to go is upstream, and so if you don't exert yourself, even if you don't notice yourself, even if you don't notice it, even if you're momentarily comfortable, chilled, it's still going backwards slowly.
Brian Rivera:Yeah. So I want to recap a few things that I heard from Alex and just back and forth with Mark right now. So allostasis is the ability to stability through change. Right, you have to do the work. You have to do that. We talk about that all the time. So I'm glad Alex brought that up. There's resulting and outcome bias where things happen that may go against what your decision process is. We know that to be true in the OODA loop, where your internal orientation and your internal processes doesn't guarantee you a certain outcome, a positive outcome. Right, so you have to look at the external environment and go okay, what am I doing? Right or wrong? And luck always has a say in an outcome. Right, so your process may be right. You got to go back and evaluate that. And then we lightly touched on process here, which would be the trend following Over time. It seems to work. So, Alex, in what I just shared with you and Mark, is there anything you can add to that or maybe that I have wrong in what I just shared back?
Alex Krainer:Not really, Ponch. I think you got it exactly right. I mean, in different words, you just said exactly what I tried to lay out as my thinking in this. So if you're wrong, then we're both wrong.
Brian Rivera:No. And then the idea of a river is a flow system, right? So we want to increase the flow of information in a system the market, if you will is a flow system. It's a living system. It's a complex adapted system. So the physics of flow systems still apply to markets. I'm curious about forgive me for not knowing this, but why does the period have to be over three years? To Let me give you an analogy first. So blackjack, when you play blackjack, it's what? 51% in your favor if you go by the rules, right? So if trend following is working, if I understand you correctly, the rule says over a period of three years, you should be winning right.
Alex Krainer:Well, the reason is because markets don't always trend. You know, among CTAs, among trend followers, there's this consensus, which I think is broadly correct, that markets trend about one third of the time and then they correct and consolidate about two thirds of the time. I think that's about right, and the nature of trend following is such that during market trends I like to call them large scale price events During large scale price events, you almost invariably make money. So when the markets take off you know at present time, you know we could relate this to the bull market in equities, which maybe just ended yesterday. We don't know. We could relate to Bitcoin, things like Nvidia, Tesla, Apple, a lot of these things you see that they go and then everybody who's long, they make money. Or if something collapses in price and if you're short, then you're doing well. I don't know.
Alex Krainer:I had short positions on US treasuries not just US, also German and British pretty much since 2020. It shifted from net long to net short, but mostly it was net short. Long to net short, but mostly it was net short. And so in that period you almost invariably make money. But then you will have long periods of time when nothing happens. Prices consolidate, they drift in a horizontal range and, as a trend follower, in those conditions you're almost certain to at best not make any money, but most likely you're going to be losing money. Why? Because trend following reacts to price fluctuations. Right, it doesn't predict them, it reacts to them. So when the price of something starts to move higher, you make the judgment oh look, this is an uptrend, I'm going to go long. So if the large-scale price event unfolds and the price goes much, much higher, then you made money. But in a consolidation, what happens is the price goes up and then it corrects back down, and then maybe there you go like oh no, it's a downtrend, you go short, and then it goes back up, you lose again and it goes back down after you go long again, and so forth. So if you I don't know if you go to investingcom today and you take a look at the price of Cocoa over the last two years, you'll see that Cocoa has done phenomenal. So it's been trading between $2,000 and $3,000 a ton for more than 10 years, I think.
Alex Krainer:And then I think in 2022 or 23, it starts to go up, and so at that point you're going to go long. Well, this time it went into an accelerating uptre, and so at that point you're going to go long. Well, this time it went into an accelerating uptrend. It reached $10,000, right. So now you made a huge windfall from that move.
Alex Krainer:And then it goes into a consolidation, into a correction and consolidation that lasted the best part of the last year, and then that consolidation finished and in this consolidation you got whipsawed badly, you know. You went short near the bottom and then you went long again near the top and you got whipsawed there, and then it launched into an uptrend again from about $8,000 a ton and I think that now it's close to $13,000. And so you're never going to be able to trade this in a way that you buy it there at $2,000 a ton and then you're going to stay long until $10,000, and you're going to sell at the top and then you're going to be optimal and make $10 trillion on this curve. But let's say that through this whole long period of time, if you've done your homework correctly, if your strategy is okay, then you should have made more money in these large-scale price events than you lost during the corrections and consolidations, and so it's not a terribly sexy strategy. It's not exciting, like I don't know, gambling in a casino and getting a big win or something like this, but it's a process that, over long periods of time, should just generally allow you to generate positive returns.
Alex Krainer:And then I think that one of my favorite things about trend following is that you're only basing all your decisions on the price curve, on the analysis of the price fluctuations, so that you learn the rules of when do we go long and when do we go short and when are we out. And so once you've mastered navigating the trends, then you can apply it to anything, to anything. If I'm an expert on oil markets and I'm analyzing fundamentals, then I know that market and I can trade oil market, but I can't trade coffee or cotton or cocoa or Bitcoin right, you can't know everything about everything Well with trend following.
Alex Krainer:If you're just analyzing the price curve, you can trade anything at all, and in my career, most of the things that I've traded and I trade I have no idea I know what coffee tastes like, but that's about it.
Mark McGrath:In other words, you're not letting your bias or your knowledge of something override the judgment. To get in or out, or stay out of it.
Alex Krainer:Yes, you don't Right Exactly. You just execute every decision as it comes out of the machine, you agree, you disagree, it doesn't matter. As it comes out of the machine, you agree, you disagree, it doesn't matter, Because you know the gains. Here's the difference between fundamentals orientation and the systematic trend following orientation. When you do fundamental analysis, you basically analyze the conditions and you try to understand what the consequences of those conditions might be. So let's say, in the 90s we analyzed the conditions of those conditions might be. So let's say, in the 90s we analyze the conditions of the oil market. It's getting constrained, the supply is shrinking, the demand is growing, so therefore oil prices should go up. And then you have a certain conviction to go long and to trade long to buy oil, anticipating price rises.
Alex Krainer:With systematic trend following, you simply apply a set of pre-formulated rules. So you formulated a set of rules and now you apply them. And you apply them knowing that roughly every other trade is going to be a loser. So you're not putting on a trade because you have a conviction that that trade is going to make you money. You're just simply relying on the process in which any individual trade might be a loser, but a long sequence of these trades you trust will ultimately gain you more profits than what you're going to have in losses and crap. I'm sorry, a mosquito just flew in. Can you believe that it's December?
Mark McGrath:Huh, his ambush Could be a drone.
Alex Krainer:Yeah, it could be.
Mark McGrath:That size.
Alex Krainer:You think, yeah, I love Joe Biden, it's could be a drone. Yeah, it could be that size. You think, yeah, I love Joe Biden, it's not moving, anyway, yeah.
Mark McGrath:Now it's not going to detonate, we'll edit this part out.
Alex Krainer:You know the approach is completely different, in the sense that you're not engaging in trades because you think you understand what's going to happen Right. You're just putting them on because that's what your rule set suggests, and you know that any individual trade might be a loser, but you know that over a long sequence of these trades in, out, in, out, in, out, in out you're going to make more than what you're going to lose, and so, therefore, your performance is going to be positive. Your performance is going to be positive and then, as trend following allows you to diversify, because you're no longer constrained by your narrow expertise of a certain industry or a certain geography or whatever you can trade any curve you want. You can trade Bitcoin, you can trade coffee, you can trade crude oil or dollar markets.
Alex Krainer:Basically all markets, basically all markets. You know, diversification is pretty much the only free lunch in speculation.
Mark McGrath:That and compounding interest right.
Alex Krainer:Well, compounding interest, yeah, but it works both ways, in the sense that if you're in debt, that's not good. It's not good.
Mark McGrath:It's not good when it goes south. No, I mean, you know a lot of the trend following talk. I mean, certainly I think it's the minority of people that would ever do trend following, because it does require the ability to let go a lot of your cognitive biases, a lot of your um uh just, you know a lot of the things that we're overcoming psychologically or emotionally. You eradicate that by having a rules-based trend following system.
Alex Krainer:You don't have to be an expert on, as you say, you don't have to be an expert on any of the commodities and you're functioning on the one known truth that you can see the price right, the price action Exactly, and the price is the only type of information in the market that is concrete, it's not subject to interpretation, it's true and it's timely, so it doesn't have to wait for somebody at the Fed or somebody at the labor department to tally up all these things and tabulate them and then report them in a finalized form. You get the prices in real time practically for free, so that raw material is available there to you. It's true, because that's what the prices that you see are, prices at which transactions have been concluded. So this is what the buyers were willing to pay and the sellers willing to accept to sell.
Brian Rivera:Yeah, you get instant feedback from that, that's the.
Alex Krainer:Thing.
Brian Rivera:You get instant feedback. You don't have to wait.
Alex Krainer:Exactly, it's the price discovery process. How do you call it? It's one of the most essential mechanisms of the modern society, one of the most relevant mechanisms in modern society that you know, ideally, should decide how we allocate capital, how we make our investment decisions, our purchase decisions, our, you know, short-term and long-term life strategies, and everything.
Brian Rivera:I'm curious, alex, are you familiar with anybody combining traditional analysis with trend following? And let me give you some context here. In the cockpit, when I used to fly, we had multiple systems to look at. Right, you have a primary thing you need to look at and all that. So, if you think about like multi-sensory integration or multi-sensory observations from the external world, that gives you information about what's going on in and around the cockpit, I'm curious is trend following just focused on one dial in the cockpit or do you see it being more looking at a broader picture?
Alex Krainer:Well, the dial I look. I look at two dials, let's call it that way. One is the trend confidence right. So for any given market, are we in an uptrend or are we in a downtrend, and how confident are we that this is in fact what we're seeing at the moment? And then that dial is the product of a network of algorithms, so it's like a neural network that you know, like you have a number of experts feeding the information to like an executive process that questions every expert and every day calculates a weighted average of these answers and says like okay, this is what I think we're seeing today. And then the other dial is when it tells me buy or sell, and that one is okay. So let's say the first dial says it's an uptrend. Then, when the other one says buy, that's a signal to enter long into the market, right. When it says sell, it's a signal to exit the market. Whereas if the dial is signaling downtrend, then a buy would be a signal to close a short position, if any, and a sell would be a signal to open a short position. That's the two dials.
Alex Krainer:Now you asked me if I know anybody who tried to combine the traditional market analysis and trend following, and I do, and that's me. So when we built our model, I thought that we need to leave the system open to human judgment and human expertise. So we created an algorithm that would, let's say, poll a number of experts. So I thought, okay, so we have a couple of oil market experts in our company and we can ask them every day to say do you think the trend is up or down? How confident do you feel? And then include that input with all the other algorithms to calculate the final decision. Right to calculate the final decision right Now. I gave up on that idea in the end because I looked at a lot of research about how people actually perform in markets and there's an overwhelming tendency for human decision-making to actually destroy value rather than to add it. And we've seen a lot of examples of outright groupthink, which is a real thing, especially among experts, because not only are they always anchored around the current price.
Alex Krainer:So let's say, if oil price today is at around, let's call it $75 a barrel, and if you ask any expert, you know people that publish reports and get paid for that. If you ask them for a forecast 12 months out, they will all fall within $10. You know, with $5 up, $5 down from the current price. So if it's 75 now, you know, the bearish guys are going to say like, ooh, you know, 71, 72. Maybe somebody really ballsy will say 69 or 68. And then the bullish guys are going to say like, ooh, I go to 80, 81. And the ballsy, ballsy guys are going to say like, ooh, it's going to be between 90 and 100. But let's go back to 2020. The oil price was at $60 a barrel more or less All the experts, but like all of them were looking at the next four years, all pretty much between $60 and $70.
Alex Krainer:And the first thing that happened in January, in March and April of 2020, is that oil crashed. To what? Was it below $30? No, there was even reportedly a negative oil price in March of 2020, right, it just absolutely cratered.
Alex Krainer:I don't know a single fundamentals guy who predicted this. Not a one came on my radar. And then, when the oil crashed like that, I think Cathie Wood said oil's going down to 12. And what did oil do? It went to 120. And again, nobody predicted it. So you know, I've become. My view on human expertise has dimmed a lot, and it's not always that they don't get it that they don't understand. It's that they don't want to stand out.
Mark McGrath:don't understand is that they don't want to stand out, because if you get it wrong but you stay in the, in the with the herd, then nothing happens it's so true yeah it's so true if you say, like oil price is going to go down 75 percent and you get that wrong, then they laugh at you forever well, and then there's, then there's, then there's the analyst that quote unquote, got it right one time and then everybody listens to them for the rest of their careers as if they were gurus and they're wrong. I had a long career in corporate asset management before I got into consulting with the crew here, and it was amazing to me. To your point, everybody heard. So they heard when they buy, they heard when they sell, they even heard when they predict, because they would rather be wrong together with a bunch of people rather than right on their own.
Alex Krainer:Yeah.
Mark McGrath:People don't like that situation.
Alex Krainer:Yeah, but then you know the implication of that is that you're always paying for advice from people who don't dare stand out Because they might jeopardize their business if they get it wrong right, and so they all like to be there kind of very close. It doesn't matter. You know, pay my newsletter, pay for my speeches and conferences, and that's my business model. I don't have time to speculate and make money off of the markets. I make money off of my subscribers, and so it's much, much safer to be in the herd, and so you're really unlikely to get good feedback from human experts.
Mark McGrath:Talk about that. You see a lot of people selling price signals and subscription and publishing and things like that, and, to your point, they're making money on their subscription, not on their calls. They get subscription fees, but they may or may not have any skin in the game or they may or may not be eating their own cooking, and you know, you see these. I mean, we all know who they are. I mean, especially in the retail world, there's all these gurus that sell their picks and whatever, and people walk away and they're like I can't believe, I lost everything. I mean, I did everything that he said. I paid all that money per month for the subscription service. What do you think of those things? I mean, because here's what I would say If it's not just tracking prices to your point, everything else is just speculation, right?
Alex Krainer:Yes, it is.
Mark McGrath:And not speculation. In a good way I mean speculation. I might as well be throwing darts at a board.
Alex Krainer:And speculation as in closer to gambling than investing. Yeah, unfortunately, that's how it is, you know, and I think that this is why I kind of moved away from all that towards systematic trend following, because you need to have a strategy. If you're investing, if you're taking risk, you need to have a strategy, and so then you need to formulate one. And if you're going to rely on stock picks and, let's say, forecasts and predictions by market experts, then you're not. This is not a strategy, this is guesswork. And you're hoping that that person is so smart and better than others that you're going to be okay and you're going to make money.
Alex Krainer:But you know, we have reams and mountains of empirical data that show that the vast majority of retail investors underperform and underperform pretty badly. So you know, the stock markets historically generate let's call it 10%, right, professional active investors underperform by let's call it their 6%, 7%. So they underperform by 5%, 6%, 3%, 4%, 5% ballpark the average retail investor underperforms by 6%, 7%, 8%. They're at about 2% to 4% per annum. So that tells you that something's not right. The mechanism, the approach to making decisions, is simply not appropriate to the challenge at hand.
Alex Krainer:And then you have again mountains of empirical data that show conclusively that even professional active investment managers have a very, very robust tendency to underperform. So they have your typical Cathie Woods right. They have all the analytics, all the expertise that money can buy, the data, the software, the computers, the quants, the PhDs, the economists, everything. And still they have over long periods of time. They have over long periods of time. They have close to 90% or even more percent probability that they will underperform the markets. And in the short term let's say any given 12-month period they have about 65% to 70% probability of underperforming. So that means that whatever expertise you're cultivating there, whatever you learned about the markets, whatever goes into your decision-making process, is inadequate to the task at hand because you're destroying value, you're not adding it.
Alex Krainer:And then if you look at the old hands in the trend following sphere, you see that they have outperformed the S&P 500 for 20, 30, 40, 50 years. Dunn Capital Management is now, I think, very close to 50 years track record 50 years track record and they outperform the S&P 500 on a compound basis by, I think, about 4% or 5% or 6%. Yeah, so let's say, s&p is 10% or 11% and they are at about 16%. And you know, it's not some kind of a deep mystery. Like you know, rentech Medallion Fund, it's just a strategy that they apply with great perseverance and discipline and a certain, you know, approach to managing risk. And they, you know I like to mention Dunn Capital Management because they have always been, as long as I know of them they have been completely transparent about their drawdowns and their drawdowns in some cases look pretty scary. And they had a big one practically right out of the gate when they started in 1974, it just went downhill and I think they lost pretty much half the money, but they didn't quit.
Alex Krainer:They stayed in the game they persevered they eat their own cooking too.
Mark McGrath:Sorry, they eat their own cooking, they have skin in the game. Exactly. I've had the privilege of going to their office in Stewart Florida and meeting them and I get their reports everywhere. I mean, yeah, they have meeting them and I get their reports everywhere. I mean, yeah, they have a discipline, they stick to it.
Alex Krainer:Yeah, yeah. And then that gives results. And again, it's not sexy, it's about as fun as watching paint dry but generates results, and it generates results in bull markets and in bear markets and in any market. And so you know, that's to me that's certainly an indication that the process of decision-making is appropriate and adequate to the challenge at hand, whereas among these fundamentals people Kathy Woods and Jeff Gondlachs and all of these people, it's not appropriate. And I'm sorry to mention Jeff Gondlach because I don't really know a lot about his performance track record, but I read his newsletter sometimes and he's one of these guys who is always predicting a market crash, and he's been predicting a market crash, I think, for the last five years. And then when the market crash eventually and he's been predicting a market crash, I think, for the last five years and then when the market crash eventually happens at some point, then everybody's going to say like, oh, my God, you know he got it exactly right, he predicted the market crash, but how long has been doing it?
Mark McGrath:You know it's like a broken call. I think was it Charlie Bunger or Warren Buffett says. You know, eventually, those that keep predicting the end of the world, eventually they'll be right.
Alex Krainer:Exactly exactly. And then there's a number of these people who keep predicting market crashes. And wait. What's the other name? Not John Molden? Well, it doesn't matter, you know they predicted the. Oh yeah, robert Schiller is one of them as well. You know he predicted the 2008 housing crash, except that he predicted it already in 2005. And now he's been predicting a market crash since 2019, right, a market crash since 2019, right. He gave a speech to a group of investors in Los Angeles in I think it was in October 2019. He was. I see bubbles everywhere. And, yeah, okay, sure, you're right, it's all bubbles everywhere. But six years later, five years later, it's still bubbles everywhere. They didn't go away. The markets had some severe corrections along the way, but not a 50% crash, not a bear market.
Mark McGrath:Meredith Whitney, I remember, was saying all munis are going to default. Yes, I remember that too.
Alex Krainer:You cannot predict stuff. So you know you cannot predict stuff, yeah, and I was maybe fortunate that I started as a market analyst exactly in this teachable interval. You know, severe bear market in oil markets and this spectacular bull market in stocks, the dot-com boom. And I just sat there staring at the screen listening to all these traders moan and complain about the oil prices, about the stock prices, about everything. And I had to. I had to make sense out of it all, and the only sense I could make out of it is that market moving, markets moving trends, and whatever we think we understand, we don't, we we have, maybe we don't or maybe we do, but you have to get your prediction right, you have to get your timing right and then again, you have to be able to act before your confidence is very, very high, before things are obvious. And that's all very hard to do. And so if you're doing it, if you're a discretionary trader, you have to generally make the right decision every day, day after day after day after day, and there are very, very, very, very few who are capable of doing that successfully over a career. And then there are many who do it successfully for a long time and then crash at some point.
Alex Krainer:But completely I don't know if the name Victor Niederhofer rings a bell. Okay, so, victor Niederhofer, he wrote the book the Education of a Speculator, and so for many years he ran a very, very successful hedge fund out of New York and I think in 1997, he was the world number one yen trader and he had these spectacular returns every year no negative years, blah, blah, blah, blah, blah, blah, blah. Returns every year, no negative years, blah, blah, blah, blah, blah, blah, blah. And then I think it was in 98, or maybe it was towards the end of 1997, he lost the whole fund in the space of just a couple of months. And then you had people like Bill Huang I don't know if I'm pronouncing his name, well, yeah, I remember the name.
Mark McGrath:I'm trying to think of one now. I don't remember the exact instance, the other one I always think of is long-term capital management, the long-term capital management.
Alex Krainer:Then you had Brian. What's his face? Brian Hunter, I think, the natural gas trader guy. He was featured in the Wall Street Journal. The genius math wizard, blah blah, blah blah made a billion dollars for his company it's on the top of my mind, but I can't recall the name of the fund and then the next year he single-handedly lost him six billion.
Mark McGrath:Yeah, I mean, I think back to my asset management career. It seemed to me a lot of the best portfolio managers were the ones that ate their own cooking, that they did their own. All their life savings were in their own portfolios and yet, at the same time, I don't know the best ones that were the wealthiest, that accumulated inordinate amounts of wealth. They stuck to their disciplines, but also, too, they had great sales forces behind them, right that sold their product and they got a lot of, because that's the other thing that their wealth isn't and their success doesn't calculate Like, what are they making sales charges and what are they making in the fees and other things?
Alex Krainer:Yeah, I myself found that the whole asset management industry is a little bit like Hollywood as well. There's a lot of talent there, but certain people do much better than most of the others. You have like a few dozen celebrities, a few dozen stars, Right. Then you have a whole lot of other people who are maybe just as good, but for some reason the markets ignore them. You have these celebrities where investors are throwing money at them, and you have maybe a couple of thousand others that go around begging for investment and end up managing relatively small hedge funds all the same.
Mark McGrath:I don't have my copy here, but you know, in addition to your books on trend following, which are superb, which you make available on your website, now that they've been cleaned off of Amazon, unfortunately, michael Covell's books I like. I know that you've been on his show and his big, giant book on trend following I think it's just called trend following, it's just, it's like a massive book, that's, like, you know, bible size. It's huge. I want to say it's chapter 28 and it was written by two fund managers that were trend following fund managers and they absolutely, line by line, bit by bit, tore down the entire retail asset management industry and, having come from that world, I would tell people hey, buy this book.
Mark McGrath:Guys I knew in the biz, I'd say, buy this book and go right to chapter 28. And invariably they'll call me back like holy shit. I can't think of the names of the guys that wrote it. I don't want to misquote them or misattribute them, but I'm pretty sure it was chapter 28 of Michael Covell's books. Michael Covell, I mean, he's been a leader, a public leader.
Mark McGrath:He's probably the most public face of trend following His work on the Turtle Traders, his work on the big trend following book, work on the turtle traders, his work on the big trend following book. He did a documentary. The other one, the market wizards books. The guy who wrote all the market wizards books oh, Jack Schwager. Jack Schwager, yeah, the market wizard books are phenomenal. And isn't it interesting that in most cases it seems that they're almost always some kind of a derivatives trader that's doing trend following, like some kind of serious trend following, like Tom Basso and Paul Tudor Jones and others?
Alex Krainer:Yeah, well, yes, you're absolutely right. And then you know, the thing that I was surprised by is that when you look into the nitty gritty of it, you realize that Benjamin Graham and Warren Buffett themselves were trend followers.
Mark McGrath:Right, they'll never say it. They'll never tell you that.
Alex Krainer:They never say it because it's much more popular to be a value investor because that's, I think, intuitively more palatable to the investors. But if you look at Benjamin Graham's returns, it all derives. Not all of it, but according to Ben Graham himself, well more than half of all his returns during his investment management career are attributable to Geico, which then means that way less than half of his returns are all these other investments. And you know like if you read his book the Intelligent Investor, the whole book is this. You know, value investing, yeah.
Mark McGrath:Low price to earnings. Low price to book.
Alex Krainer:Yeah, and then you get to the end of the book where he writes the postscript, and then you get to the end of the book where he writes the postscript, and in the postscript you see that all of that, all of that that he's teaching you, is significantly less than half of his returns, and Geico is significantly more than half of his returns, which means that his value investing actually underperformed the markets by a wide margin over his investment career.
Alex Krainer:And then, in case of Warren Buffett, if you look at his individual investments, it's always momentum. He doesn't buy value companies. Really. He's buying, you know, very, very richly valued companies and it always ends up being a hit. And then you know you don't even need. It's not even such a mystery If you just look over the recent years things that have done well, how well they have done Tesla and Nvidia and so on At what point were these companies overvalued? Probably for a couple fold. And at what point were these companies overvalued? Probably for a couple fold. And at what point were they undervalued Like never.
Alex Krainer:And you know, I looked at Tesla because it's such a staggering case. It comes out of nowhere and then it becomes more valuable than all the other car manufacturers taken together. Like what other car manufacturers taken together? Like what? And then you look at when the Tesla stock started trading or let's say, 2010, 2011, it was trading at like three, three and a half bucks and then over the next 10 years it appreciates like 370 fold. Is this the terrain for value investing where you might buy it somewhere? Because it was a loss maker for the bulk of this period. So there was no value. There was no value to buy. It was never a valuable company. Nevertheless, it went up 370 times and there wasn't a point in time that you say, like you know, this appreciated 20. So now you know, as a, as a conservative value investor, I'm going to sell this and wait for the next value opportunity. No man, it's a trend. You sail with the trend and then you catch these windfalls, these completely insane price rallies. And it's not just Tesla, it's.
Alex Krainer:The three guys from London Business School went and looked at the stock prices going back from 1900, so more than 100 years and they published this study in 2009. And then they simply compared investing in the best performing stocks versus the worst performing stocks. You know, like the top 20%, the bottom 20% and the middle 60%, and so, over these 100 years, the bottom 20%. I have to explain Meaning. They recalculated the portfolio every month and they always allocated money into the stocks that, over the last 12 months, had the best performance. All right, and the same with the worst 12, the ones that had the worst performance over the last 12 months.
Alex Krainer:And then every month, they recalculate and they rebalance the portfolio. So it's not like they just calculate the returns on the worst stocks over the last 100 years and the best stock over the last 100 years. The portfolio is constantly being changed, but the point is that investing in the ones that have appreciated the most over the previous 12 months turned £1 in 1900 to £2.3 million in 2009., whereas investing in the let's call it value companies the bottom 20% turned £1,900 into £49 in 2008. So the difference is absolutely staggering. But again, it suggests that following trend works, because what you're buying actually you're buying things that are going up right, and you're doing that systematically, and so that generated a return of, I think, something like 18% per annum compound, whereas the bottom ones generated less than 10%.
Mark McGrath:And that's again. It goes back to these sort of intellectual turf wars in the investing space where people say, oh I'm a value guy, oh I'm a growth guy, oh I'm this guy. But the reality is, if you're doing things right and well and you're able to disconnect from the psychological or the emotional aspects of it, you'd be a trend follower. You'd be a systematic trend follower.
Alex Krainer:Yeah, exactly, and I always ask myself how come everybody isn't a trend follower. And then I realized that the bulk of the professionals in the finance, financial services industry they kind of look down on trend followers like we do some kind of a voodoo reading of goat entrails or something like this. And I promise you, I published an article on Zero Hedge a couple of years ago and it was very interesting because I wanted to make a point about technical analysis and so I was looking at the price of Bitcoin one day and I thought this looks like Bitcoin is due for a sharp correction. And then I published that article and the comments many people were like so what do you read? Also tea leaves and monkey bones and you know, I don't know what else they put in there, but basically it was taken with derision and I think that most people in the financial services industry are kind of in that same school of thought where you know, trend following is just not sufficiently rigorous.
Alex Krainer:It's not real science. It's not real science. It's not real analysis, it's just kind of a joke. But what happened is that I think a day or two after I published this article, bitcoin actually did have a sharp correction and it even went to the price target that I said it should reach, and I think it went from $50,000 down to about $30,000, $32,000, something like that Pretty big fall. But what happened is that the price of Bitcoin completed a head and shoulders pattern, that the price of Bitcoin completed a head and shoulders pattern, and so I said there's a head and shoulders pattern, here's the neckline. The price just broke the neckline. Now it might go down.
Alex Krainer:And it wasn't even about making the prediction, it was that. You know, at that point, technical analysis allows you to make a trade in which you said like, okay, I get in here. I think I have the profit potential down to here and I think that I have a stop loss that I can put over here, so that if I'm wrong, I'm going to lose this much. If I'm right, I'm going to make that much, lose this much, if I'm right, I'm going to make that much. So you know. Technical analysis and reading the chart allows you to make these decisions, that you can decide how much to lose if you're wrong, and you can kind of project how much you should make if you're right. And it allows you to make these trading decisions so that when you make money, you make more than what you lose when you lose. And then if you're going to be a systematic trend follower, then you just have to pack that knowledge framework into algorithms that can do that for you every day, systematically.
Mark McGrath:Yeah, well, one of the things I've learned in reading about trend following and interacting with traders is like, if you don't position size and that's another thing that's lost on most people is you just described position sizing right? If I had something properly well, I guess maybe you had it like stopped or triggered or whatever, but also, too, to have that thing effectively position-sized. Yeah, that's essential. That people are putting everything on one thing, because they think it's going to go up or whatever.
Alex Krainer:Yeah, I see. Okay. So this is another thing where I'm kind of opinionated. I try to persuade people investors, people who read my newsletters to target 20% returns, who read my newsletter to target 20% returns? Because throughout my career I've read a lot about successful investment managers, traders. I've digested a lot of empirical data about these performance dynamics and pretty much it turns out that the best of the best among the active investment managers top out at around 16% or 17% net net of fees. Right, so they charge fees, but over the long run that's kind of the speed limit and I think that's extremely respectable. But if the best of the best achieve that and so let's call it, on the gross basis, low 20s. So if you're making 70% net of fees, let's call it you're making low 20s on the gross basis. So I think that any individual trader should not attempt to generate more returns than 20%. That's what they should target. And so, looked over a year, 20% is a respectable return. That's pretty good. You'd like your investment manager to generate you that much.
Alex Krainer:But if you're managing your own portfolio and you open an account online and you see that you can, you can leverage easily and you might see your account go up and down two, three, five percent in a day. And then you know, like, if you, if you have a couple of successful days, you think, like you know I could, I could double this in a year. Why should I go that slow? Why should I be that conservative? I can double this in a year. Why should I go that slow? Why should I be that conservative? I can double this thing. Well, all these online brokers in certain jurisdictions, they have to, on the front page, they have to disclose what percentage of their clients lose money, and so you'll see a whole lot of these online traders and if you go to them, you see that between 75% and 85% of their clients lose money. So your odds of doubling your portfolio are next to zero. However clever or confident you feel, you're going to get blown out.
Mark McGrath:Is that mostly? I buy it hot, sell it cold. The phenomenon of investors' return? Yeah, exactly.
Alex Krainer:And you know, psychology plays an incredibly important part of that, because you know what people do is, when they get beat up, then they become very cautious. So you take like a 20% drawdown and then you're like you know, do I make this investment, do I not? Oh, just buy a little bit. And then you know, even if you make good decisions, you're not making the appropriate gains from that, whereas if they had a successful run, then they start thinking oh man, I'm good at this, why did I just make 20%? I could have made 50%. I knew it, I knew this. So next time I'm just going to bet really heavy. And that's how 85% of them end up losing money.
Alex Krainer:So I think that A you want to have a strategy. So any strategy is better than no strategy at all, because once you have a strategy and you formulated it, at least you have something to fix. If you got it wrong, you can tell what I'm getting is not what I planned. Did I get it wrong? And maybe you can improve. And then you have to apply this strategy with a certain discipline and you have to manage your risk and you have to persevere. And if you target those 20% per annum, that means that your bad trades are going to be tolerable. You're not going to be up at night just because some investment went badly.
Brian Rivera:I like the idea of psychology. You know some of the folks that I follow they. So in the OODA loop, the Observe, write, decide, act loop, in orientation, you have genetics. Which genetics could contain your biases, right, your biases as a human being, your heuristics, information bias, all the biases that are out there. There's a ton of them. And then you have your previous experience. A ton of them. And then you have your previous experience and I think those two are your main four pictures within the orientation. Previous experience would be your education. Right, you go to school, you learn about value investing, you get an MBA, you learn how to value things, you learn how to value a company and all that, and you bring that lesson forward into your trading career or your finance career. And then there's other folks that go out there and they have nothing to do with finance, they have nothing to do with that, but they learn about art or they learn about underwater basket weaving or something like that, and they bring that orientation to the market and sometimes they outperform others. And that's why this is important.
Brian Rivera:When we talk about strategy within John Boyd's Zootaloop, the way I explain it is you need a map, you need something that you can hold yourself accountable to. And I think that's what trend following does is right or wrong. I'm not saying it's the best thing out there, but it is a. It's a process of map provides. A map says this, tells me what I need to do, and I and I refine my process, um, and I mitigate my biases, uh, that that are inside my orientation, and that's, if I understand you correctly, alex. That's how you win right, that's how you outperform others in the market.
Brian Rivera:Similarly, we've been looking at how do you map the external world in this world of finance so you can quote unquote, get an advantage. What I've seen so far is people don't do that. They use there is no map. It's like going back to your analogy, analogy when you were talking about trend following and accelerating and decelerating and all that I was thinking about. When you imagine driving in an unknown space without a map, without a GPS or anything like that, that's what you're essentially doing. You're following the crowd, they're accelerating, they're slowing down, some are turning, you're trying to figure out where to go. That'll get you somewhere, right, but wouldn't it be awesome if you had a map of that landscape to know where you are? And that's what I believe is missing in all this is nobody has a map, or maybe they do, but all maps are wrong, by the way. Right, I mean there's no accurate map of the external environment. You can't map reality.
Alex Krainer:Exactly, exactly.
Brian Rivera:So what I'm thinking here is by combining and you've said you've done this is it's not perfect, but it gives you an indicator of where you are. But in order to know where you are, you need a map, and that's that mapping thing that I think is really critical in all this. And I think the firm or organization or individual that comes up with a map of the external world, again, it's going to be wrong and they stay to that. They're going to increase the probability of success in a way that they Now let me throw this out there Card counting inside of Blackjack. That's a map, right? It's pretty accurate, if you will. I think it's illegal in a lot of places, by the way, so I'm not advocating for that, but it provides you a mental map of what's coming up next, or potentially what's coming up next right, right, so that could exist in the market. And that's what we're trying to explore is is who has the best map?
Alex Krainer:I'll throw that back to you and mark who has the best map right now, don't know, I'm not aware that anybody really has a map, but it's, uh, it's something that I'm trying to accomplish actually through trend compass.
Mark McGrath:Is that like through your systems?
Alex Krainer:through the system.
Alex Krainer:Yeah, but uh, you know, it's a so I, 20, 25 years ago, I built the model that I still use to this day, but at the time, you know, I've, uh, I've, uh, I've conceived the whole system with me as the only user, right? So it's a windows-based application that I use every day and that's that. And then you know, let's say that if I want to formulate trading strategies for any individual market, it will take me, let's say, between 15 and 25 hours, because the way the system generates trading strategies through kind of a guided machine learning process, generates trading strategies through kind of a guided machine learning process, right? And so there's a lot of backtest simulations with various combinations of parameters, and so, because it takes such a long time, you know I've done that for about 200 markets, and so I can track about 200 markets, and so I can track about 200 markets and for every individual market I will generate, let's say, between 20 and 50, 60 trading strategies, and they're all formulated within the same framework of knowledge, right? Let's say we use moving averages, right? And so let's say if you want to trade gold maybe I'm just throwing these numbers out, don't quote me on any of it let's say that on gold, 12-day, 61-day and 112-day moving averages work right. On Dow Jones, it might be a different combination, and so there's more than one way to do trend following on an individual market, and then in every individual market, parameter combinations will work.
Alex Krainer:So then I you know, having read these things about momentum investing, and you know the returns by Warren Buffett and Benjamin Graham, I thought, okay, well, in that case, you know, momentum strategy, which is just a different name for trend following in the stocks, could actually be a brilliant strategy. But it would be very difficult for me to do, because I cannot formulate trading strategies for every individual stock and every individual ETF, and there's all kinds of these market instruments. So what I want to do now is I want to convert the model from a Windows-based to web-based and I want to open it to people to formulate their own strategies for whatever market they want. And so this is where MAP comes in, because if I have maybe thousands of people who formulate strategies of thousands of securities, then I start getting a relatively high-resolution map of the market telling me what's trending up, what's trending down, and then that will be the map, let's call it, which. I may not know the fundamental reasons for why certain things are happening, but I see that they are happening.
Alex Krainer:And the problem with this domain is that you know, a map in the real world is a very useful thing because the real world doesn't change very much, it's very stable. So what you draw on the map is what you find out there, whereas all we know about markets is statistics, aggregates, figures, numbers. It's really, really difficult to know what markets really are. Even it's people interacting and transacting I sell you this, you buy that, and that's the price and how much of this stuff we transacted, how fast, when that's what creates all these aggregates the GDP and the employment and the prices and the interest rates.
Alex Krainer:So the terrain doesn't exist in physical format. So it's very, very hard to even conceive how to map it. Very hard to even conceive how to map it. And the way I've envisioned it is that I would, in that case, be able to maybe substitute the uncertainty of markets for a swarm of let's call it intelligent agents who navigate these markets and then, let's say, maybe have a margin of a more predictable let's call it a more predictable expectancy. So you know, that's my, with my trend following, that's the how do you call it? Maybe the summit of what I think I can achieve.
Brian Rivera:Yeah, I think when you have multiple agents or people contributing to a map and if we use chaos theory for that, where they don't know each other and they don't know how they're providing that information, so they're not anchoring each other or anything like that so remove that groupthink that we talked about earlier, then you can create something Again. I don't know what this map is. I don't know how you even begin to create something like that.
Alex Krainer:Yeah, it doesn't exist. It doesn't exist yet, so I don't know either, but it's one of those things that you know. Like with many, let's call them inventions, they exist in somebody's head first, and then they need to be put on paper, and then they have to be put into the real world.
Mark McGrath:It's a conceptual spiral.
Alex Krainer:It's a conceptual spiral. It's a conceptual spiral, beautifully said, yeah, and I hope that I would already be working on this if I was open to how do you call it? Because I talk to venture capitalists and all these types of people and if I were in my 30s I'd be jumping on that stuff, because I talk to venture capitalists and all these types of people and if I were in my 30s I'd be jumping on that stuff. But I'm 54 and I'm thinking like, do I want to deal with you people? I don't think so.
Brian Rivera:I'm with you. I mean it's a noble cause. I mean there's something there. It's not entertaining, it's warfare, it's a way to figure out something. Yeah, it gives you a purpose, and all that Exactly.
Brian Rivera:It keeps your brain sharp. No-transcript, no-transcript on the on the podcast and we looked at a, a mapping technique that said you know, short the housing market or how? Builders right, this thing's gonna flip over real fast and sure, sure enough. Quote, unquote. They were right. But it doesn't mean they were right. It means that the direction they were calling is correct and made some cash on it and we're getting those. What we need is an early indicator about the direction things are going to go, like those turns, and once we have that, then we can. My belief is, you can use all these other tools to take that 20% and shove it up to 60, 70%, which would be absolutely insane, right, if you're getting that type of return. Again, not-.
Alex Krainer:Yeah, but you know generally you can do those things with small portfolio. You know like those kinds of returns are not scalable, so you can do it on like a niche strategy.
Brian Rivera:Mm-hmm.
Alex Krainer:And you know, my idea has always been to not your scale is limited to about let's call it one to two billion AUM. There are many CTAs that are much, much bigger than that, but then what happens is that they're mostly trading bonds Because, let's say, that the commodities markets, where you would want to be as diversified as possible, are too small to accommodate the position size that they need. So I don't know. I looked at the what's it called, ahl man or Winton. Winton is one of the largest and they have something like 70% of their risk allocated to treasury futures, and then the currencies and then equities, and then their allocation to commodities is less than 10%. It was like 6%, 7%. They're just too, big.
Alex Krainer:They're too big yeah. So now you've deprived yourself from that diversification, I mean they still perform okay, but it's not really the CTA in the sense that investors should be out there looking for yeah should be out there looking for, you know?
Alex Krainer:Yeah, Because if you want to go into a CTA fund, you want it, among other reasons for diversification, because you already have, you know, money allocated to stocks and bonds and real estate and all these. You know, conventional asset types. So if you want to diversify, you want to have some exposure to commodity prices. Well, if you go into Winton or something like that, then you get a tiny little bit of exposure to commodity price.
Alex Krainer:I think that they're still worth investing in. I'm not saying that they're not and they're good. They're very good at what they do, but they're not what they set out to do. They just became victims of their own success, which is a nice problem, it's common right.
Mark McGrath:I mean, I would think that probably the best portfolios are people you've never heard of. They pull their money in together in a limited partnership or something like that and they're just doing it. Yeah for sure.
Mark McGrath:They're not advertising it and you don't know who they are. Yeah, interesting. Hey. Last thing before we go we really appreciate your time and we'd love to have you back to keep these conversations going. I mean, you write some phenomenal stuff on geopolitics and you have a unique view, I guess, being on the other side of the pond from us. But you know, I've always really enjoyed your analysis and assessments of sort of the global situation. You know, tell me more, tell us more about that influence. You know, tell us more about what it is that drives you to write that stuff. And again, these are things that would challenge our assumptions. You know, these are things that would make people think, hey, I didn't read. Alex wrote this on a sub stack. I've never saw this in the news, I've never heard of it. But like guys like Ponch and I are going to like, we're going to dig deep on that and we're going to we're going to look and ask a lot of questions. Tell us more about what drives that.
Alex Krainer:Well, you know, I, when I was in my early teens, I lived through the outbreak of war in the former Yugoslavia right and that made a mark on me. And then, you know, I served as a soldier in Croatian military during that war and you know the experience impressed me first in the sense of how the incredible transformation in the society that happens with war. Before the war started I think that 99% of us thought like there's no way, no, how that there could be war here. It was completely unthinkable. However, when it started, almost from one day to the next, the collective psychology completely changed and war became the predominant obsession of the whole society. And you know, you have the adversary, you have the enemy.
Alex Krainer:And maybe the day before the war starts people are still discussing in more nuanced terms. And you know it's like this. But you know the other side has a point and there's no hatred there. You know the other side has a point and there's no hatred. There's no desire to harm anybody, there's no desire to go to war. And then all at once all that goes away. People kind of close ranks behind their government, even if they hate him.
Brian Rivera:You know, like if the United?
Alex Krainer:States ended up going to a big war while Biden was still in office. I guarantee you that a large number of Americans would close ranks behind the Biden administration. You know, it suddenly becomes patriotism, willingness to fight, willingness to sacrifice yourself, willingness to kill, and that goes on until it exhausts itself and it's very destructive. And so, you know, that left a mark on me, especially because much, much later I volunteered to go to the military. Much, much later I realized that we've been lied to practically about everything, and then you ended up volunteering to sacrifice yourself on the basis of lies. And then, you know, I thought well, you know, I'm really glad I didn't get hurt, because had I gotten hurt I'd be very resentful of all that. But a lot of people did get hurt.
Alex Krainer:And so, anyway, you know, through my work in hedge funds, I came across, you know, some people that I thought were up to no good, namely this character, bill Browder, who used to run the largest foreign-owned hedge fund in Russia, which was basically a pirate raid on Russia by the Western financial interest during the 1990s. He was part of it. They made out like bandits, but I came into contact with Bill Browder on two occasions, and so I knew a little bit about his story and then in 2015, he published a book called Red Notice right, and Red Notice was, I think, ghostwritten by Lee Child. I'm convinced it's not disclosed, but I'm convinced that it was ghostwritten by Lee Child. It was told as a thriller and so it's a very good read. And so my ex-wife she gave me the book once to read and she said, like you're going to find this so fascinating.
Alex Krainer:And so I read the book and I thought, oh wow, that's insane. But I was left very confused because what I read in the book and what I thought I understood about this guy, bill Browder, and his business in Russia didn't match. So I thought I don't get it. Something is very weird about this. And then I went and I read the book again and then, of course, I realized it was a pack full of lies.
Alex Krainer:And the reason why it matters is because Bill Browder is the man who lobbied the Magnitsky Act through US Congress in December of 2012, practically over Christmas. One of those things like the Federal Reserve Act. That Magnitsky Act is deemed the opening salvo in the new Cold War between Russia and the United States, and what I gathered from everything I knew about the story is that A you know Bill Browder is not like bona fide hedge fund manager, like you know private entrepreneur doing stuff for his own account, his own business, but that he was the figurehead, with a very powerful backing, of some hidden power network, and that these people are pushing us into World War III. And I thought, holy shit, you know, I already lived through the outbreak of war, I know how it goes. Somebody needs to unmask these people because they want us all to go to war against Russia. And then, you know, I thought, fine, you know, I probably know more about this than the average person on the street, so I'll write it. So I did.
Alex Krainer:And then the book got banned in the space of five weeks and then it got republished by a proper publishing company and then it got banned again. But by now the whole snowball started rolling gently, with people inviting me to do interviews and podcasts, and I started writing a blog. And about two years ago I started writing on Substack. I started a YouTube channel, but the YouTube channel was called Markets, trends and Profits it's still there and I intended to talk about what we talked about today, about trading, about risk management, about strategies, about commodities, but it all kind of got pulled away because they're still pushing us into World War III, because they're still pushing us into World War III, and we are now closer to World War III than we ever were since World War II. And so, you know, writing about markets and trading and investing just kind of feels secondary, because if we end up in a nuclear holocaust then you know whether I catch this trend or that trend or have positive or negative, it won't matter.
Mark McGrath:It's not going to matter all that much so yeah, that's how my hobby ended up eating up a large chunk of my day-to-day life. I love reading your stuff and I would encourage others to read it because it really does. You really do challenge the status quo and you get people. You get people thinking. You know, I was looking back on your website before we called. I had purchased your books on Amazon Grand Deception wasn't available.
Mark McGrath:Yeah, they're actually in a box of the storage locker right at the moment. But I have Trimling bible and I have, you know, uncertainty and commodities. But I remember recommending them to people and then all of a sudden they're like those aren't on amazon and I'm like what the hell are you talking about? Like I just, I literally just got these books. So like I, I literally I might be the last guy to buy your books on amazon because not long after that they, they weren't.
Alex Krainer:Well, for anybody watching this, both books are free on my website as PDFs, and they're not free because they're crap, but they're free because Amazon canceled me completely and then continued to sell the mastering uncertainty in commodities trading. It's something like nine. I have a screen, I have a screenshot. Something like $900 a copy, yeah, and I thought you bastards and I'm not going to see a penny of that, you know. So I thought I can't tolerate that somebody spends I mean, you know nobody's going to buy it, but like, let like, let's just think that somebody because the book ended up getting an award as the best book for commodity investors for 21 and 22, right. And so I thought if somebody spends that much money on that book, it's going to go all to the thief Amazon, nothing to me, and the person is going to be out of 900 bucks and the book was selling for 25 26, and so I thought, no, I can't take that. So I just put them both free of charge as downloads on my website and anybody can pick up a copy if they like.
Alex Krainer:At any rate, you know, I didn't see any royalties anyway, because at the end, when Amazon canceled me, they also kept all the money I made and they, you know, because I didn't pay attention to this, because this is not a bestseller, this is a niche thing, so it was attention to this, because this is not a bestseller, this is a niche thing. So it was. You know, I was selling between zero and two books per month until Mastering Uncertainty got an award, and then I started selling let's call it between 10 and 15 a day, and it was only at that point that I realized that Amazon's not paying me out anything, because now I know this, because I, you know, they're showing you your royalties on your thing and then, you know, every so often you see that they go down as though you got paid out.
Mark McGrath:Yeah.
Alex Krainer:But I never received a penny. So it was a period of about three years that they stole all the royalties that I earned. So if you wonder how Jeff Bezos paid for his space program and his super yachts, I helped, I helped, I chipped in, chipped in, yeah, Well, the good news is they're available.
Mark McGrath:you've freed them from from that. You know, we highly encourage people to go read them and and follow your sub stack because, like I said, you know the assumptions and markets and assumptions in geopolitics should always be challenged, because if you go along with the herd, you go along with the group, um the. You know the theorists that we work with and follow. John boyd said you have to challenge all assumptions, otherwise what is doctrine today becomes dogma forever and it it's unbreakable. And we're also too. We're constant learners and every trend follower I've ever met is a constant learner and they're constantly looking at markets and they're constantly learning and revising and updating.
Mark McGrath:We did a live broadcast today on X with Sean Ring, who writes the Root Awakening. Oh, yeah, yeah, you know, sean. Yeah, yeah, sean's a good friend. Maybe I knew that we had that intersection point, but he was on today and he was talking about that, about always being a learner and challenging all assumptions. It's so important. What are some of the books that influenced you? Like? Did any like you know? Like Road to Serfdom by FA Hayek or anything like that? Any like you know? Like Road to Serfdom by FA Hayek or anything like that, mark, it's always my zinger question.
Alex Krainer:Okay, so Michael Covell.
Mark McGrath:Yeah.
Alex Krainer:So his trend following book was actually redemption, because my team and I already went down the trend following route before we knew that trend following was a thing. Yeah, you know, coming across Michael Covell's book was beautiful because I felt like, oh okay, so I'm not crazy, this is real. And then I want to say markets, trends and profits. But that's not correct. It's one of those books that is like the top economics books for the 20th century professor out of Chicago Stocks for the long run. No, no, no, no. No, it's economics, it's risks, it's something about managing risk and profits. And I, you know God, I don't know why I can't come up with it, because this is the book that I very, very frequently cite and now my library is in the other room. I don't want to get up now, but it's not Hayek.
Mark McGrath:Decision-making and risk management.
Alex Krainer:Risk. Okay, if we have a second, I'll have to look it up, because now I'm bothered that I can't come up even with the author.
Mark McGrath:Gary, I'm trying to think of who is from the Chicago School.
Alex Krainer:Yeah, of course I think it's Milton Friedman. It's like a 100-year-old, it's like from the 20s or 30s.
Mark McGrath:Not Irving Fisher.
Alex Krainer:Nope, not Irving Fisher, but we're getting closer.
Mark McGrath:Let's see the Chicago School of Economics. You know that's always been. I was trained in the Austrian discipline in Chicago and Austrian schools have always had not John Bates Clark, no Frank Knight.
Alex Krainer:Frank Knight. Thank you, frank Knight. Yeah, that was important Then.
Mark McGrath:I read Risk, Uncertainty and Profit. Yes, Thank you.
Alex Krainer:Risk, uncertainty and Profit. I mean, I've only cited Frank Knight like a 100 times in various papers and books that I wrote.
Mark McGrath:The PDF is free online. Put it in Google Notebook, LM and have fun people.
Alex Krainer:That's like economics, you can read and that makes sense. It's not mathematical nonsense. And then I read books by Christopher Cope on risk management, Victor Niederhofer the Education of a Speculator was very important, even though I don't necessarily recommend the book. But the whole buildup of Niederhofer into this larger-than-life speculator who is a market superstar and… Gets his clock cleaned, Then gets his clock cleaned, Then gets his clock cleaned, that was again a teachable moment in my life.
Mark McGrath:Are you familiar? One of my favorites, that got me started on this whole thing, was the Art of Contrary Thinking by Humphrey B Neill N-E-I-L-L. Find the PDFs online and I'll email it to you. The underlying premise is when everyone thinks alike, everyone is likely to be wrong, and it's wise to train your mind to go contrary to the herd.
Mark McGrath:And what was fascinating about that book? I got that book Ponch, you appreciate this. I was about to go on a deployment. I got to come back stateside for two weeks. I came here to Manhattan and I took a cab back to JFK. It's a bizarre hour to get back to the Far East and the guy goes you must be going somewhere exotic. It's the only time I ever had an American cab driver in New York and I told him I was in the Marine Corps and he asked what are you going to do? Stay in, get out, be a general? And I said no, I'm a history major, so I'm going to go out and go to law school because I don't want to be a teacher. And he says you're an idiot, you should go work on Wall Street. And I said I'm not good at math. He says no, no, thinking. It's. Literally.
Mark McGrath:The first thing I ever bought on Amazon was that book and I took it with me on deployment. The copy that I have now. It's my second copy, because my first copy was just read so much and dog-eared and in my pocket and wet in the jungle and all this other stuff that I took with me. But I've read and reread that book probably 10 million times and you can never read it enough because our human nature, our predisposition, our cognitive biases and other things like we're constantly at war with those. And then the other thing that I did, and you'll love this I went through the footnotes of that book and I bought that.
Mark McGrath:I could find Some of them are like way out of print, even the out of print ones. I was able to find almost all of the books that he refers to and many of them are out of favor or banned or whatever, because they're telling about how financial delusion and things like that, how it's all a game of psychology, it's not. You know, math is one thing, but if you have the psychology, as we're saying, if you have this trend following, to be a disciplined trend follower, it takes a lot of psychology, it takes a lot of emotional intelligence to stick to that sort of a discipline and that book is a good entree to it.
Alex Krainer:In fact, I think that the books that have maybe been most important for me from this point of view, from trading and investing, have in fact been the psychology books. Yeah, I read how the Mind works by steven pinker, which is, which is a fairly good book, and then I read something called zen and the brain, which I forget the author, but it's like a pretty big book on on, you know, neuro, you know brain studies, and then there's a thing called choicesices, values and Frames by those you know, daniel Kahneman and Amos Tversky, the two Israeli dudes, but they are, you know, work also is Master and His Emissary by Ian McGilchrist. It's stuff of deep fascination.
Mark McGrath:Well, I think you've come to the right place with us, right Ponch?
Brian Rivera:Yeah, we've actually had Ian McGilchrist recommended to us several times and then the neuroscientists we've had on here. You know, we, we talk Kahneman, we talk type zero, type one, type two, cognition. People are asking us why do you do that? I'm like, if you understand how the brain works or what, the way we imagine the brain to work, then you can, then you can really come to some good conclusions on how to navigate uncertainty. Navigate uncertainty, manage risk, and that's you know. We also look at complex adaptive systems, thinking systems thinking cybernetics. We'll have some cybernetics on the podcast later on and that's something that the American government kind of pushed back on in the 40s and 50s because a lot of it was coming out of the Soviet Union then. And now we find cybernetics to feed into the world of neuroscience. And, by the way, John Boyd, you know, on the OODA loop he looked heavily into cybernetics to understand this concept.
Mark McGrath:I would tell you, alex I mean Ponch and I have been talking about this for a long time and we're glad to finally have a trend follower and a trend following trader on to talk about this but the work that we do specifically around John Boyd and the work that he was doing about this, but the work that we do specifically around John Boyd and the work that he was doing and we can get you started via our sub stack and, of course, this podcast but the advantage that we believe that traders and market operators have by understanding John Boyd's theories effectively give them a competitive, creative and collaborative edge that will absolutely bury their competition.
Brian Rivera:I'm going to build on that, Mark. So I think I'm glad we do this. It's a lower energy approach. If you understand, John Boyd, like what we're showing folks, you don't have to go read thousands of books, from the Tao of Physics to cybernetics, to Google, to all that. You don't have to go read all that. I mean you can. John Boyd already did it and he synthesized that for a lot of folks and if you follow us and we can do a better job explaining it, then we're going to reduce the energy organizations people spend on trying to figure out how sentient systems perceive, decide, act, learn and adapt to this complex world. So I'm glad you just brought that up, Mark, because I'm thinking about you can't go read all that stuff. Why would you?
Mark McGrath:Yeah, well, we published a transcript of John Boyd's seminal brief. His critical work is called Destruction and Creation, which brings back to mind Joseph Schumpeter speaking of economists, although he called it Creative Destruction. Back to mind, like Joseph Schumpeter speaking of economists, although he called it creative destruction, but it's a dense paper that fuses entropy, uncertainty and incompleteness together of why we have to constantly challenge and break our concepts and our assumptions and we have to keep building on that. We use the term conceptual spiral. I just dropped a link in the chat.
Mark McGrath:We transcribed this briefing that he had called Conceptual Spiral and you can hear him talk and deliver it. And again it goes back to if teaching this to investment advisors, to portfolio managers, to investors, to anyone that'll listen, to understand that you constantly have to break and revise and update your orientation. And we take our name for both the podcast and the sub stack and they come from the same paragraph inside of this briefing I just sent you. There's no way out of the world of reorientation that if you're not continuously updating and revising your models, you're going to be static, linear, symmetric, ossified and absolutely you'll become irrelevant. You'll become defeated destroyed.
Alex Krainer:The river is slowly carrying you downstream.
Mark McGrath:Yeah, that's it, yeah. And in that everything is in a state of constant flux and flow and change, more importantly, why you have there's no way out of the world of reorientation. And what Ponch and I have learned over the years, and what we've talked about with guests that we think we're opening a lot, we believe we're opening a lot of minds we know that we are is that everybody is capable of doing this if they're able to challenge their assumptions. And the people that we have on, like you and Sean Ring and others, that are doing that in a wide variety of domains in this case, investing or economics. But we have neuroscientists, come on. We have athletes, we have coaches, we have business people we have all kinds of, because these things are completely interdisciplinary. It only applies where humans act and make decisions.
Mark McGrath:So, trend following, the orientation of trend following, and all the people that we described like whether it was Bill Dunn, tudor Jones, michael Covell these are people with a differentiated orientation, like yourself, which, in turn, allows you to see things differently than the vast majority of people, and our thesis and what we do with clients and what we do on the show is when you understand that, then you can build on what you're already doing. So the ultra successful people can become even more successful, because now they understand exactly why it's happening and why they're competitive and why they're more creative. Did I leave anything out, ponch? Now we're going to send people to your sub stack. They can follow you on X, I believe at Naked Hedgy. Where else would you have us send people? Alex, we're going to link to the books on the show page when this comes out.
Alex Krainer:Sure, yeah, well, you know X, I'm relatively active on X and then you know I've been writing a personal Substack for two years, which you know devolved into a thing that mostly deals with geopolitics and history and things like this. But I started about a month ago. I started a market Substack. So that's Ice System Trend Compass.
Mark McGrath:Oh, okay, second Substack We'll link to that as well. And if you'd love to ever join us, so we are doing X Live broadcast. We've done two or three now. Ponch with Sean Ring, yeah, so we've had Sean come on to talk about his letter, but we'd love to, if you ever want, to join us live. We're doing a live broadcast of our podcast on X now too. Yeah, broadcast of our podcast on x now too. So, yeah, why not? Cool, that'll be fun. Okay, we'll look to do that after the holidays and things like that so brilliant, okay, gentlemen, thank you.
Alex Krainer:Thank you for having me. Uh, it was a very fascinating discussion, so absolutely I wish you, I wish you, a merry christmas and a good start to 2025. Hopefully the inauguration happens. Maybe we dodged a nuclear bullet.
Mark McGrath:Awesome, hopefully, hopefully, stay with us one sec. We'll just stop the recording now, but thanks for coming.
