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George Soros is a living legend among traders. With a net worth of $28 billion, he is the richest market speculator in the world. He is known for big, bold bets, and his success as a trader offers a few lessons to everyday investors.
Soros\u2019 trading philosophy can best be described by two phrases:
\u201cIt doesn\u2019t matter if you are right or wrong, but how much money you make when you are right, and how much money you lose when you are wrong!\u201d
And\u2026
\u201cWhen you have a tremendous conviction on a trade, you have to go for the jugular. When you are right on something, you can\u2019t own enough\u201d.
Now, I would not recommend this two-phase strategy to my listeners because, remember, Soros invests disposable money from high-net-worth individuals and disposable money from his own pocket. So if his bets go bad, he and his investors still have millions laying around and can afford to absorb those losses, which is not the case for most of us. If you want to emulate Soros, make sure you do so with only a small disposable part of your portfolio that you would not mind losing entirely.
So here are a few tidbits of market insights that reveal how Soros thinks about financial markets:
Soros believes market prices are almost always wrong and present a biased view of the future. He believes that markets are always biased in one direction or another. They are either too bullish or too bearish, and here\u2019s the revolutionary thought: What the market actually does influences the events that they anticipate. I\u2019ll get into that more in a minute. These movements are easy for him to see in financial markets. He sees buy and sell decisions, which are based on expectations about future stock prices and future prices, in turn, become contingent on present buy and sell decisions.
So there\u2019s essentially a circular relationship between cause and effect with each affecting the other in what\u2019s basically a Catch 22. By the way, if some of you don\u2019t know about Catch 22, look it up. It\u2019s an important concept you\u2019ll run into in your own life from time to time.
Also as we use fundamental analysis to attempt to determine the future value of a company, the daily movement of stock prices also influences those fundamentals. As a result, buy and sell decisions are more complicated in the short term, and that\u2019s one reason short-term trading is so darn hard. It\u2019s most likely a game that you are going to lose, and it\u2019s a game that even the most highly trained professionals struggle to overcome. Now this is a tough game when trading on a short-term basis. In the long term, however, these influencing type factors disappear and fundamental analysis will likely work well.
Let\u2019s talk about Soros\u2019 view of bubbles
When Soros sees a bubble forming, he rushes in to buy, adding fuel to the fire, pushing the stock higher just by the act of buying a big chunk of it. By the way, if you follow the markets like I do, you will see days when stocks move strongly in one direction or another for no apparent reason. Well, maybe George Soros is doing something on that day.
In Soros\u2019 view, every bubble has two components: The first component is an underlying trend that prevails in reality that fundamentally tells you whether a company is worth investing in or not, and the second component is a misconception relating to that trend. What sets the bubble in motion is when positive feedback develops between the trend and the misconception. In other words, when the trend is positive and leads to a huge surge in buying because everyone is jumping on the bandwagon, this takes the stock well above its underlying fundamentals.
As the bubble inflates, short sellers, fundamentals, and plain-old \u201cprofit taking\u201d test the bubble with short selloffs along the way. When shares survive these tests, both the trend and the misconception are reinforced, driving shares even higher after a brief selloff. But, eventually,