The Art of Becoming a Better Trader

I have told the following story in a few blog posts.

When I traded single stock derivatives at D.E. Shaw, my boss traded S&P options and he made money consistently though he took very little risk. He was a trading magician. He knew his options market, especially the S&P, and he knew how to trade spreads. He constantly traded in and out, squeezing juice out of the lemon. The lemon never ran out of juice! It was a wonderful thing—a winning trading method.

He started his career trading options for O’Connor & Associates, and then worked for Swiss Bank before joining D.E. Shaw. Both of these were great trading houses at the time.

Most of the best traders I have met, trade spreads. They spread different options, stocks versus stocks, indices, stocks against indices, etc. The number of combinations is endless. They are good at identifying pockets of value amongst the securities they trade and they rotate their inventory to take advantage of these discrepancies with no net increase in market exposure.

Gaining exposure to spread trading can help you become a much better trader. At a minimum asking: What else can we trade against this? Or; Can I get this exposure at a more advantaged level? The answers to these questions will augment your thinking about extracting more value out of the system.

When you start looking at the trading world from the point of view of trading a security against another one, you will:

• Analyze the economics of both legs.
• Hone your ability to identify value within the set.
• Remove some of the market noise from the equation.
• Establish a better basis for comparison and analysis.
• Investigate new areas for exploration.
• Understand the meaning of “hedge”, of “elastic forces”, “Brownian motion”, "half life", "Intersection of self influencing stochastic processes", and so forth.
• Think in terms of capital efficiency and velocity.
• Discover powerful trading patterns not visible using traditional charting methods.

Does this make sense to you? Did you learn anything? We are putting the final touches on our spread trading educational program. The program will introduce trading concepts you have never heard before. Stay tuned.

Written by Michael Bigger. Follow me on Twitter and StockTwits.