1/ Taking a break from options to talk about a general trading concept.

Intended audience: people who are getting into trading, people have read a bunch of “experts” and came away even more confused, etc.

A thread…
2/ I thought about putting this in the book, but in the end I decided it’s too technical for a general audience. The one sentence claim I make here is:

“Trading is the wrong term for what trading is. Trading is more accurately called positioning.”
3/ What do I mean by this?

Retail traders seem to obsess about “entries” and “exits”. But in my career as a trader, I *never thought about entries and exits. At least, not explicitly.
4/ Here are things you hear about entries and exits:

✅ “Always enter when everyone is exiting.”
➡️ I’ve never seen a real market where “everyone” had to do something.
✅ “A good exit is more valuable than a great entry.”
➡️ What do “good” and “great” mean?

✅ “Never enter a position without a plan for how to exit it.”
➡️ When I find a good deal on shoes, I buy them without thinking about how to resell them.
✅ “I place my entries and exits where I’m assured people have to act.”
➡️ What if they have to act in the same direction as you? 🤔

None of the pros I know think this way. And IMO there’s a better way to think about entry and exit. Which also helps with sizing and risk.
7/ Let’s go back to square 1:

Q: Why do we trade?
A: To make money.

More specifically, it’s because we think we’ve identified a mispricing.
8/ I.e. the correct price is either higher than where you can buy it, or lower than where you can sell it.

(Yes, I’m ignoring things like the risk premium. That’s ok for these purposes, as you’ll see.)
9/ Now, you might be arguing that this isn’t how you think about your trades.

You think about setups and price action or other stuff, and don’t really think about the question “What should the correct price be”?
10/ I’m saying you should.

Another way to think of it is like this: I have some private information, some signal, that tells me the price should be different (either higher or lower).

The fundamental question of trading is this: “How do I act on this signal?”
11/ What do we mean by signal?

Again, let’s start at square 1. This is what a stock looks like:
12/ BUT, this is what a stock looks like to a trader. The orange line is what the world (in aggregate) thinks it’s worth. The blue line is what *you* think it’s worth.
13/ What really matters is the difference between the two.
14/ This is what prices look like to a trader. Most of the time they’re zero. But sometimes they’re not.

An “entry”, in this way of thinking, is a disagreement with the world that’s “big enough to matter”.
15/ Ok, so we did a trade. Now what? I’ve made money in theory (known as Sklansky bucks in the poker world), but you can’t spend expected-value dollars.

Unless you’re Adam Neumann or something. (I still marvel at what he was able to do.)
16/ In order to actualize your $, you need to close out your position. You need to “exit”. And this is the question.

When do you exit?
17/ Fundamental concept #1:

“All exits are *entries* into a different position.”

Exits and entries are the same! This may sound vacuous but I assure you it’s not.
18/ It shows you that the trades (i.e. the actions you take) are important but secondary. The thing that matters most is the position. You get paid not for the trade, but rather for the position you hold.

“What should my position be?” is the most important question to ask.
19/ So that’s where I want to stop for today. Trading is misnamed. It should be called positioning.

I’ll come back tomorrow with some interesting things that follow from this shift in perspective.
20/ Ok, we’re back with Day 2 of “Trading is positioning.”

To recap, I claim it’s much more productive to think about trading as primarily answering the question “What position should I be holding right now?”
21/ The reason I think this is a useful way to think is that it resolves a few common conundra.

Things you always hear, and which sound fine in the abstract but conflict with other different things that also sound good.
22/ “Let your winners ride, close out your losers.”

Look, the world doesn’t know and certainly doesn’t care what price *you traded at.

The price of your trade doesn’t IN ANY WAY affect what something is worth right now. And what something is worth right now is all that matters.
23/ “Lock in a profit when you can.”

I think this is kind of a hack to address a persistent human cognitive bias called loss aversion, but that’s kind of outside scope. It’s a bad hack w/ bad consequences.

The world doesn’t care what your Pnl is.
24/ “When do I exit a position?”

Simple. Exit whenever you think a different position is better.
25/ Here is a partial list of what your decisions shouldn’t be a function of (ignoring costs and risk limits for now):

- The price at which you traded into your position (i.e. Pnl).
- How long you’ve been in that position.
- How you feel about the trade that got you to now.
26/ The only thing that matters is:

Is the current price fair/cheap/rich? And how much?

I.e. What position should I have, and how do I work towards it?
27/ Again, I’m ignoring costs and risk and margins. Those are second-order things. Let’s get the first order stuff right first.

Why don’t you see many people talking like this?

People love to overcomplicate things. It suits them. Plus it helps hide an absence of edge.
28/ Here’s the cool thing: thinking in terms of positions helps in life too.

“I never look back, only forward.”

For a long time I thought that was a stupid thing to say, because I always believed in the philosophy of Socrates: “The unexamined life is not worth living.”
29/ But in fact it’s perfectly consistent with that. It’s just that we need to separate the levels at which we’re doing the examination.

Day-to-day you’re making decisions, and those decisions really do have to be made in a forward-looking manner.
30/ But every once in a while, you can go up a level of abstraction. At a meta level, you sometimes think about the PROCESS by which you make decisions. And when you do, it’s good and useful and necessary to look backward.

But day-to-day, it really is forward.
31/ The other thing is that you’re better off thinking of your decisions as state-dependent things. Not path-dependent.

Almost all of the time, it doesn’t much matter HOW you got to where you are, to your current decision-point. All that matters is the current state of affairs.
32/ Should you change jobs? Dunno. What matters isn’t how good or bad your current job is, but rather how much better the next one will to be. Remember the picture with the trading signal.

What you care about is the delta between agreed-upon reality and your model of the world.
33/ This applies to life decisions too. Figure out what is the current state of affairs, then figure out what to do to get to the state you want.

By all means analyze your process every once in a while. But not every day, and not in the middle of making an important decision!
34/ Ok, that concludes the thing where I, some rando on the Internet, tells you how to live your life. Sorry about that. 😃

Comments welcome, as always!

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More from @AgustinLebron3

8 Feb
1/ Welcome to Options 201! You might remember me from such threads as Options 101:

Or What’s The Deal With Having Edge?

2/ I wasn’t sure if I should keep going. We’re getting closer to “how to make money in options,” and I think public sources of such claims are always and invariably scams.

But I’ve decided this is still more “useful information to know” than trading edge, so it should be ok.
3/ Let’s start by talking about time. Time is surprisingly hard to think about. But why do we care?

Well, as we said in Options 101, we want to convert our options prices into vols because of #reasons. And to do so, you need to know t_exp.
Read 62 tweets
30 Jan
More ruminations on what trading can teach us about non-trading things. A thread...
Recently reading @SinclairEuan's excellent "Positional Option Trading", and he reminded me of something I hadn't thought about for a while:

Great trades start with a known risk premium and then add idiosyncratic inefficiencies on top to get more alpha.
The risk premium is a long-term thing. The vol premium or the carry trade aren't going anywhere.

But you can't really build a business on them alone. Too many people know about it, so returns are at best "ok" (i.e. low Sharpe) but with terrible tail behavior under stress.
Read 14 tweets
4 Jan
1/ Options 101 (a thread):

When you teach options, they put you in jail if you don't start with this:

A call/put is the right (but not the obligation) to buy/sell a security for a given price at (or by) a certain time. Boring! Let's do an example:
2/ If I own the Mar 700 call in $TSLA then that means anytime before ~5pm on Mar 19 2021, I can exercise my right to buy TSLA shares.

I hand over $700/share and I get some TSLA stock. First let's note a few things:
3/ US equity multipliers are typically 100 (barring corporate actions). So when you buy 1 options contract (call or put), you're actually buying the right to 100 shares.

Remind me to tell you the story of when I messed up the DAX multiplier. I was *sure* was going to get fired.
Read 56 tweets
23 Dec 20
Many different-seeming activities have a very similar characteristic when you compare skilled people to world-class people:

Almost all of the difference can be explained by the quality of left tail performance.

1. In golf, @LouStagner and @scottfawcett have shown that scratch player vs professional "good shots" are fairly similar (within a few %), but the bad shots are sometimes 2x worse for scratch players vs pros.

And scratch players are really good at golf.
2. In chess, a big part of your ELO is how often and big your blunders are. The difference between an IM and world-class GM isn't that @GMHikaru finds brilliancies much more often, it's that his worst plays are still really good.

Arguably this is how @MagnusCarlsen wins so much.
Read 6 tweets
25 Jul 20
Had a long think about things @KrisAbdelmessih and @VitruviusCurve wrote this week. About ML in trading.

The levels of quant trading:

0. Fumbling around in the dark.

Most people stay here forever, and even those who progress past this level still revert to it with annoying frequency. :)
1. Does +EV trades.

Has figured some things out, can do good trades and know they're good in expectation. This is a hard level to get to!
Read 7 tweets

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