Beware The Top Performers

“And, at any point in time, the richest traders are often the worst traders. This, I will call the cross-sectional problem: At a given time in the market, the most successful traders are likely to be those that are best fit to the last cycle. This does not happen too often with dentists or pianists—because these professions are more immune to randomness.”

~ N.N. Taleb

Trading is a funny game. You can do everything right: research your assumptions thoroughly, wait for the perfect technical entry, size the position correctly, and even successfully exit before price starts to turn. But unfortunately, this still doesn’t guarantee you’ll have a good year. Successful process execution only ensures profits in the long-run. Anything can happen in the short-run.

The opposite is true as well in the case of undeserved windfall profits. You can pick a stock based purely on “gut feel”, plow your entire account into it, and make an absolute killing because price rallied big time on surprise news. This methodology may work for some time, but it always ends the same way — in a spectacular and devastating blowout.

As Taleb so brilliantly explains in his book Fooled By Randomness, the market has a real knack for fooling us with noise. The effect is a whole host of market participants tricked into thinking they’re the next Market Wizard, usually in a bull market, only to blow up during the first innings of the next bear trend.

Taleb explains how the most successful traders in the here and now are really just the ones best fit to the last cycle. They aren’t the tried and true risk managers that survive for the long haul. He calls this the cross-sectional problem.

Have you ever participated in one of those stock market contests? They are a perfect example of why the cross-sectional problem exists.

Take the standard stock market game in any finance class for example. The professor tells each of his students to build a stock portfolio in a paper account. They can go long/short, use leverage, or any other tactic they want. The game is “no holds barred”. The winner is the student with the best returns by the end of semester.

What makes this game different than real life is that the game only lasts half a year. In real life “the game” lasts in perpetuity.

And this is where the problem lies. You won’t win the semester-long contest if you use a robust long-term method. A student that properly controls risk throughout the semester can’t possibly beat the class maniacs who leverage themselves and go all in on one or a few stocks. Most of these guys will blow out before the end of the semester, but the one guy that gets lucky and survives will destroy the performance of the student properly controlling risk.

In the short-term, top performance is always achieved by the trader who takes blowout level risks and hasn’t hit an unlucky streak or “reset” point yet.

Think back to the epic tech rally during the late 90’s. During that time the market “gods” were those buying breakout stocks on huge size. Because of the nature of that cycle, their strategy worked extremely well. As long as you bought strength and held you were rewarded again and again. Betting small and exercising proper risk control actually impaired returns in the short-run because everything went higher everyday. Smaller positions meant less money.

The guys plowing into internet stocks were achieving incredible returns while the world’s true top hedge fund managers were caught shorting the rally or not participating. This created a situation where the richest traders in the short-run had a high probability of blowing up and were therefore the worst traders in the long-run.

Sure enough, once the bubble popped almost all the tech-star traders went bust. The professionals who respected risk didn’t make 1000% returns during the run up, but they’re the ones still here playing the game today. The overfit day traders and swing traders on the other hand exited the game, many of them permanently.

It’s not easy to avoid this toxic focus on the short-term. Humans aren’t good at playing for the long haul. It’s goes against the monkey brain that wants everything right this second. This is especially true considering how hard it is to watch your friend or another trader in your peer group absolutely knock it out of the park with multi-hundred percent returns while your account is clocking in a measly 10% for the year.

At Macro Ops we always ask ourselves, who are the richest traders right now, and how are they best fit to the current cycle?

Which strategy do you think is overfit to the current cycle?

Let us know in the comments below.



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Brandon Beylo

Value Investor

Brandon has been a professional investor focusing on value for over 13 years, spending his time in small to micro-cap companies, spin-offs, SPACs, and deep value liquidation situations. Over time, he’s developed a deeper understanding for what deep-value investing actually means, and refined his philosophy to include any business trading at a wild discount to what he thinks its worth in 3-5 years.

Brandon has a tenacious passion for investing, broad-based learning, and business. He previously worked for several leading investment firms before joining the team at Macro Ops. He lives by the famous Munger mantra of trying to get a little smarter each day.


Investing & Personal Finance

AK is the founder of Macro Ops and the host of Fallible.

He started out in corporate economics for a Fortune 50 company before moving to a long/short equity investment firm.

With Macro Ops focused primarily on institutional clients, AK moved to servicing new investors just starting their journey. He takes the professional research and education produced at Macro Ops and breaks it down for beginners. The goal is to help clients find the best solution for their investing needs through effective education.

Tyler Kling

Volatility & Options Trader

Former trade desk manager at $100+ million family office where he oversaw multiple traders and helped develop cutting edge quantitative strategies in the derivatives market.

He worked as a consultant to the family office’s in-house fund of funds in the areas of portfolio manager evaluation and capital allocation.

Certified in Quantitative Finance from the Fitch Learning Center in London, England where he studied under famous quants such as Paul Wilmott.

Alex Barrow

Macro Trader

Founder and head macro trader at Macro Ops. Alex joined the US Marine Corps on his 18th birthday just one month after the 9/11 terrorist attacks. He subsequently spent a decade in the military. Serving in various capacities from scout sniper to interrogator and counterintelligence specialist. Following his military service, he worked as a contract intelligence professional for a number of US agencies (from the DIA to FBI) with a focus on counterintelligence and terrorist financing. He also spent time consulting for a tech company that specialized in building analytic software for finance and intelligence analysis.

After leaving the field of intelligence he went to work at a global macro hedge fund. He’s been professionally involved in markets since 2005, has consulted with a number of the leading names in the hedge fund space, and now manages his own family office while running Macro Ops. He’s published over 300 white papers on complex financial and macroeconomic topics, writes regularly about investment/market trends, and frequently speaks at conferences on trading and investing.

Macro Ops is a market research firm geared toward professional and experienced retail traders and investors. Macro Ops’ research has been featured in Forbes, Marketwatch, Business Insider, and Real Vision as well as a number of other leading publications.

You can find out more about Alex on his LinkedIn account here and also find him on Twitter where he frequently shares his market research.