Systematic Relative Strength

Indeed, why is trading so hard? Adam Grimes of Waverly Advisors addresses exactly this issue in blog post. This is one of the most articulate expositions of the problems investors face with their own behavior that I have ever read.

What is it about markets that encourages people to do exactly the wrong thing at the wrong time, and why do many of the behaviors that serve us so well in other situations actually work against us in the market?

Part of the answer lies in the nature of the market itself. What we call “the market” is actually the end result of the interactions of thousands of traders across the gamut of size, holding period, and intent. Each trader is constantly trying to gain an advantage over the others; market behavior is the sum of all of this activity, reflecting both the rational analysis and the psychological reactions of all participants. This creates an environment that has basically evolved to encourage individual traders to make mistakes. That is an important point—the market is essentially designed to cause traders to do the wrong thing at the wrong time. The market turns our cognitive tools and psychological quirks against us, making us our own enemy in the marketplace. It is not so much that the market is against us; it is that the market sets us against ourselves.

I added the bold. This is just great writing, and powerful because it is true. Really competent people who are fantastic about making life decisions often have a rough time trading in the market, for just the reason Mr. Grimes’ points out.

He comes to the same solution that we have come to: a systematic investment process that can be implemented rigorously. There’s no shortage of robust return factors that offer potential outperformance—the trick is always implementing them in a disciplined way.