Trade Like Jesse Livermore

Key takeaways

• Livermore advised investors to buy on a rising market and sell on a down one.

• Livermore maintained that leading stocks would be the first to break a trading range and reach top prices.

• Livermore recommended that investors should draw out half of every profit made and set it aside as a reserve.

Jesse Livermore, widely recognized as one of the most fabulous stock traders in the 20th century, took stock trading as his career.

Livermore believed that successful traders shared certain personalities and the game of speculation was not for the stupid, the mentally lazy, the man of inferior emotional balance, or the get-rich-quick adventurer.

His legendary life, full of ups and downs, demonstrates the importance of timing, money management, and emotional control, which are vital to any successful trader.

Master's strategies

Livermore's trading strategies were formed from his trading experience over the years. They can be crystallized as the following six principles:

1. The medium-to-long trend matters more than short-term price swings.

2. Base trading decisions on the analysis of the general market. Buy on a scale-up and sell on a scale-down. When the market trend is unclear, stay out of trades and sit on the sideline. Do not trade every day of every year. Good timing may only appear four or five times a year.

3. Go for the leading stocks in a promising sector. Industry leaders are more likely to break a trading range and reach new highs. But remember that stocks that will take the lead two years later may not be the same as today as economic and commercial conditions constantly change.

4. Always remember to stop loss. Livermore limited his initial loss to 10%. Control the loss to ensure the sustainability of your trades.

5. Stick to the pyramiding-up strategy. Remember that stocks are never too high for you to begin buying or too low to start selling. Continue with trades that show you a profit and never average losses by buying more of a falling stock. For short sales, add to your short positions only when you're sure it'll continue going down.

6. Avoid cheap stocks. Big profits are usually made from violent fluctuations, which rarely happen to cheap stocks.

Way to success

Livermore made himself several policies: keep track of gains and losses, think independently, and decide for himself.

He also reflected on his actions, especially the wrong ones, since the start of his career. This habit helped him avert the same mistakes.

In his later years, Livermore would always draw out half of every profit as a cash reserve, which gave him adequate capital to finance his next moves.

He learned an important lesson at a young age: "Do not trade every day of every year." He admitted there were always great opportunities out there in the market. Yet the right thing to do in most circumstances was to sit tight. According to Livermore, he could see clearer trends on the sideline than diving into small price swings.

Livermore always stayed alert to the market and meticulously researched the overall market and individual stocks. He was well-known for his self-discipline. For example, he usually did his own research, which involved the general economy and daily news, one or two hours before breakfast as he had the sharpest mind during this time of the day. Then, he would start trading.

Livermore was a quiet person, especially when he was at work. Speaking in a loud voice was forbidden. He often stood straight all day because he believed he would think and see the quotes clearer in this way. He was also highly organized. There was not even a single piece of wasted paper on his desk.

Case Study

Railroad Triumph

On the trip to Atlantic City in the spring of 1906, Jesse Livermore realized that the strong bull market since the 1903 Rich Man's Panic had entered bubble territory, and the bubble was growing. He had a hunch of shorting the Union Pacific despite the stock acting strong.

Contrary to his previous style of following the trend, Livermore listened to his inner voice and shorted the stock. Two days later, a great earthquake struck San Francisco. As it turned out, Livermore made a whopping profit of $300,000.

1929 Big Short

Livermore made his next significant achievement during the Great Depression in 1929.

The US stock market was on the rise at the end of 1928, with retail investors fully invested in popular stocks.

Like the recent dot-com bubble, the leading stocks were priced way more than their intrinsic value by then, indicating huge risks.

Livermore sensed the abnormality. He was waiting for a clear sign of weakening to short the stocks he believed to be most highly overvalued.

He watched the performance of leading stocks carefully because, just as they would register the largest growth in a bull market, they were likely to plunge the most on the way down.

The signal came when the leading stocks lost momentum to grow. Livermore placed a small number of short orders as a test.

This was his way of starting the movement against the market. When losing about $250,000 on his short positions, Livermore seized the opportunity and began shorting the market heavily.

What came next was beyond his expectations. The following weeks saw "The Great Stock Market Crash of 1929", the most destructive market slump Americans had ever experienced. Reportedly, Livermore amassed a total of $100 million from his short sale.

Master's Quotes

1. Whatever happens in the stock market today has happened before and will happen again.

2. Markets are never wrong——opinions often are.

3. Buy rising stocks and sell falling stocks.

4. Do not trade every day of every year.

5. Do not become an involuntary investor by holding onto stocks whose price has fallen.

6. Trade only when the market is clearly bullish or bearish.

7. In any sector, trade the leading stock——the one showing the strongest trend.

8. No trading rules will deliver a profit 100 percent of the time.

9. It is not good to be too curious about all the reasons behind price movements.

10. As long as a stock is acting right, and the market is right, do not be in a hurry to take profits.

The bottom line

Jesse Livermore's personal life is considered anything but plain. He married three times and bankrupted himself four times.

On November 28th, 1940, Livermore shot himself in the cloakroom of the Sherry-Netherland Hotel in Manhattan.

Needless to say, Jesse Livermore is a genius, a born trader. He survived the market with or without fortune. But he took his own life due to financial and personal difficulties. His tragic ending reminds us that there's much to cherish in life other than trading.

This article is not as investment advice or as a recommendation of any strategy. All investments have risks, including the loss of principle. Your investment results may not be similar to those of Livermore's.