Turtle Talk : Episode 015

Episode 015 is live, and it brings our two part special to a close. This month Rich Brennan, Jerry Parker and Adam Havryliv are joined once more by Mark “Moose” McGrath to walk the final four of the eight strategic ideas we set out to test. It is a smaller room this time. Mike Melissinos and Ben Ford could not join us, so Jerry carries the trend following side where Mike would have come in, and Moose heads up the strategists’ side on his own. As it turned out, that made for one of the most heated and enjoyable conversations the show has produced, and as Moose put it at one point, the best part is that we are all heated together.

Part One was about the condition we all work under. You cannot see the future, your plan will not survive contact, and you still have to act. Part Two is about the craft, what you actually do with that. How you win when your chance finally comes, when to let go of a winner, how you survive a blow, and the kind of mind that holds it all together. And running underneath it all is the same idea that carried the whole special. In war you have to predict, because nothing out there tells you where the enemy will be. In trend following you never predict, because the price already gives you the crowd’s answer, and all you have to do is follow it.

The first idea is the orthodox and the unorthodox. In any fight there are two kinds of force, the ordinary one that holds the line and keeps the enemy busy, and the extraordinary one, the surprising move that actually decides the day. For trend followers that maps almost perfectly onto how the money is made, because most trades are small losses, the steady cost of showing up, and then every so often one runs and pays for the lot. Jerry takes us to 1993, a year that came down to a single trade. He was running forty or fifty markets back then, and one client had instructed him not to trade commodities. The only thing that moved all year was coffee, on the back of a freeze in Brazil. At the end of the year that same client asked why he had broken even while every other client had made money, and the answer wrote itself. There is a particular frustration, Jerry notes, in eliminating a market for no good reason and then watching it become the entire year. Moose takes the war side straight to Sun Tzu, the one book Boyd could never find fault with across eight or nine different translations, and to the employment of Cheng and Qi, the orthodox and the unorthodox. A Marine trains endlessly on the conventional, the drills and the general orders and the immediate action drills, so that when the environment refuses to match the book he can reach for the unconventional. And then he lands the point of the segment. Surprise is an output, not an input. You cannot simply decide to deploy surprise. You can only create the conditions in which a mismatch emerges and the other side can no longer compute what is happening. Rich puts the obvious question to the room: in war the surprise works because there is a mind on the other side to fool, but in markets there is nobody to surprise, so when the big winner finally pays, did we outfox anyone, or is it simply that the rare event was enormous while everyone else huddled in the ordinary? Moose reframes it around anticipation rather than prediction, and around Boyd’s constant game of interaction and isolation, noting that the client who banned commodities did not interact with his world, did not anticipate, and isolated himself into a poor outcome. Adam admits he is constantly surprised by markets, that the year’s profit almost always arrives from a source nobody expected, and that the discipline is simply playing the odds and executing day by day. Jerry closes it with the practical warning that the most dangerous moments for a systematic trader are the ones where, for whatever seemingly good reason, you find yourself unable to follow your own process.

From there the conversation turns to the culminating point, and to knowing when to let go. Clausewitz noticed that an advance reaches a point where it has outrun its own supply and strength, and the very next push, the one that feels like it should finish the job, is the one that breaks you instead of the enemy. Rich is careful with the translation into trend following, because there is an easy misreading sitting right there. This is not about taking money off the table as a trend matures. Trend followers do not do that, they let winners run. It is about not dragging the giant position that a huge trend built for you on into the next trade. When the trend ends, you take the exit and you go back to the small starting bet. Jerry says cocoa had it all, that almost every lesson the markets can teach you is in there somewhere. Do not remove something from the portfolio because it has not made money in a long time. Put things in because they diversify. The back test is the answer to every question. And then comes the line of the segment, prompted by a story about Mike. A stock had run thousands of per cent and then sold off hard, and Mike’s followers were asking where he got out. His answer was that he did not, he was still in. That, says Jerry, was the only correct answer, because the correct answer is never how much profit you gave back, it is that you followed your rules. Moose gives the room a genuine education on Clausewitz, and it is anything but reverent. He recommends Robert Coram’s biography for its account of Boyd’s battle with him, and offers the comparison that Clausewitz is the John Maynard Keynes of warfighting, in that no matter how thoroughly he is debunked he still prevails over Sun Tzu or Boyd, in the same way Keynes still prevails over Hayek and Mises. There are valuable things in him, friction and the culminating point among them, but there are places where he misses the mark entirely. Then Moose gives the idea its real edge. The culminating point is where success itself becomes the danger, where complacency creeps in and you rest on your laurels rather than reorienting. His example is the 1976 Formula One season, where James Hunt took the championship by a single point and then checked out, while Niki Lauda kept going and kept trying to get better. If you are not shattering and rebuilding your models even when you have won, you have already begun your journey to obsolescence. Jerry brings it back to the book. When a trade ends it is over, clear conscience, unemotional, and the next trade is a new trade with the new reality of higher volatility, which usually means a much smaller position. He warns against the mentality that says you mishandled the long side so you will make it back on the short, and reminds us of the old turtle rule about being wary of a trade when the last one was a winner. Asked whether the top can ever be seen coming or only spotted after it has turned, Adam suspects not, and uses equities to show why. A market can be statistically expensive on a Shiller PE or a composite valuation model and still be in a perfectly good trend, and the trend follower has to ignore that genuinely valid information and trade the system. Jerry admits the frustration of watching others call the top, the sector and the stock, and then retire before anyone gets to see them give it all back, and how easily the success of others contaminates your own worldview. Moose closes with Marshall McLuhan, and the observation that we look at the present in the rear view mirror, marching forward while facing backwards, which is precisely how the complacency sets in.

The third idea is defence in depth, and survival. In war you do not try to stop an attack at a single line, because if you put everything on one front wall and it breaks, you are finished. You build in depth instead, layer behind layer, trading a little ground to absorb the blow and bleed the enemy’s momentum, so that no single break is fatal. For trend followers that is risk management in one image, spreading bets across many markets and sizing each one small so that no single trade can sink the book. Jerry is blunt about the alternative. People concentrate in stocks and sectors and countries and call it diversification, and it works for long periods right up until the fifty to eighty per cent drawdown arrives. Concentration breeds confidence, confidence yields to leverage, and the blow ups follow. Then comes one of the best lines of the episode: thankfully, the trend follower is no expert. Because he is an expert in none of these markets he needs the diversification, and he can make a great deal of money in soybeans having never seen a soybean in his life. There is no number one through ten best idea. They are all small bets with the same expectation, and that is exactly what keeps us alive and ready to fight another day. Moose takes defence in depth into Boyd’s four qualities, variety, rapidity, harmony and initiative, with variety and rapidity doing most of the work here. You need optionality for the circumstances you did not anticipate, and you need to introduce those variations quickly enough that your opponent can no longer compute what is happening. But he also flags something interesting, that defence in depth is not really a Marine concept at all. Marines are built as an offensive instrument, to strike where the enemy is weakest and catch him off guard, not to hold ground for its own sake. When Rich describes trend followers as predators lurking in the abyssal depths, Moose recognises it immediately, and reaches for the crocodile taking the gazelle at the water’s edge. That opens the twist Rich wanted to land, which is that for trend followers the wide net is not only defence. Jerry explains that nobody loves diversification more than the systematic trend follower, but we do not use it the way the rest of the world does. We deliberately include correlated markets, WTI and Brent, because one can trend while the other sits still. He reaches back to the first big turtle trade, February heating oil, which doubled and tripled while the January and March contracts barely moved. Roughly five to ten per cent of the portfolio will have a big trend in any given year, so the wider you cast the net, the less likely bad luck shuts you out entirely. We are outlier hunters, and the net is how we hunt. Adam adds the honest version of what that feels like from the inside, that trend followers seem to be losing all the time because half the trades are losers, and the real job is to become a very good loser, graceful in it, while letting the winners run. Jerry then takes issue with a cliché he cannot stand, the one that says you should only mind the losses because the winners will take care of themselves. They do not. Nothing in life takes care of itself, and if you mishandle the winner it does not pay for the losses, and the whole edifice fails.

The final idea is the strategist’s mind, because everything in the special comes back to it. A mind that holds its view of the world lightly, knows the moment that view has stopped matching reality, and has the courage to tear it up and build a new one. Rich makes this one personal, and it is the most honest story in the series. Back in his value investing days he thought he had found a clever edge. Rather than chase the blue chips everyone was already watching, look instead at the small suppliers quietly connected to them, the penny stocks feeding the giants. One such minnow supplied equipment to BHP, and when BHP posted a strong earnings report the logic felt airtight, that strength had to flow downhill, so he invested heavily. What he had not read was the fine print of the contract between the miner and the supplier. At almost the exact moment he was buying in, the supplier was being replaced. The very thing he was betting on had already been cut at the root and he had no idea. What followed was a violent outsized move with him on the wrong side of all of it. For want of a nail the kingdom was lost. For want of one contract clause he never read, the whole thesis was lost. The chain was invisible looking forward and obvious only in hindsight. And here is the part that made him a trend follower. The price already knew. The moment that contract turned it began showing up in the behaviour of the stock, long before any report would ever have told him. The market was writing the answer in real time while he sat arguing with it from a spreadsheet. Moose takes that to Boyd’s strategic game of interaction and isolation, and to his definition of strategy as a mental tapestry of changing intentions for realising some aim in an unfolding and often unforeseen world of many bewildering events and contending interests. It is not enough to see what you can see, he says. You have to allow for the unseen, because a fixed plan set in granite will get rolled by a reality that simply does not work that way. He offers McLuhan’s distinction between figure and ground, that we fixate on the figures in front of us while it is the ground shifting beneath our feet that undoes us. Asked what has actually kept him in the game for four decades, Jerry says it is believing in the thing itself, waking up and watching it work, and the sheer fun of seeing it hold up against other people and other ideas. He would change at any point if he found something better, and in forty years he has not. He closes on mentorship, and the observation that handing someone the book on trend following is like handing someone the book on being a Marine and telling them to go and be one. There is a bootcamp for a reason. You need to suffer, to lose, to get out of the ivory tower, and nothing replaces a mentor who has been through the battles. Adam brings the psychology home with a clean framework, the type one errors, false positives, entering invalid low quality trades out of greed and impatience, and the type two errors, false negatives, hesitating and missing a valid high quality trade out of fear and paralysis. Both damage the returns in different ways, and knowing which one your own personality leans toward is a genuine path to improvement. Rich’s closing question to both camps is the deepest seam of the whole series. If the entire game on both sides comes down to tearing up your model before it traps you, what actually separates a great Marine from a great trend follower, once you set aside the fact that one of them is handed a price and the other is not? Moose answers with the willingness and the humility to keep learning, and makes the case that the Marine Corps is the most intellectual of the services precisely because Marines are given a very small book of things they cannot do and enormous latitude in everything else.

Eight ideas across two episodes, and the striking thing was how little translation the two worlds needed in the end. The Marine who has to anticipate an enemy that can be deceived, and the trend follower who never guesses because the price already holds the crowd’s answer, turn out to be practising the same discipline in different clothes, refusing to be trapped by a model of a world that will not sit still. Moose puts it as well as anyone. Reality is always changing, so you have to keep destroying and creating your perception of it, because what worked once will not necessarily work again. Jerry has spent four decades proving the same point with rules rather than briefings. And somewhere in the middle of all of it, a small supplier lost a contract that nobody read, and a young value investor learned to follow the price instead.

One more thing before we go. This may be our last episode for a while. We are taking a well earned break as we consider changing the format and bringing you something rather different going forward. Nothing is decided yet, and we will keep you posted on when, or if, the show returns in a new shape. Which makes this the moment to thank people properly. To Moose, who came onto a trend following show and showed us how much of our own world we could see in his, and to Ben, who could not be with us for this one but was such a part of getting the conversation started. To Mike, absent today, who brought the live book and the energy to Part One. To Jerry, fifteen episodes of the calmest and most generous wisdom anyone could ask for, who has given this show its backbone. And to Adam, my co-host, for keeping us all honest about what is really going on between the ears, and for making this a partnership rather than a solo act. And to all of you listening, whether you came from the markets or the military, thank you for walking these eight ideas with us, and for turning up across fifteen episodes. We have loved making this for you. If we come back in a new form, you will be the first to know.

Stay systematic. Stay patient. And may the trend be with you.