This commentary is dedicated to a longtime friend and industry icon, Dennis Gartman. The idea for it started with an email I received from Doug Kass. He recited respectful praise for Dennis, and I fully agree with that sentiment. Then I thought, many of our readers may not know Dennis. So, I asked Dennis for permission to distribute the “rules” he follows in trading. He kindly agreed. Hat tip to Doug Kass for seeding the idea.
Below is a verbatim quotation from Doug’s note, which lays out “Gartman's Rules of Trading: The 2022 Version.” I would offer to add only a single Kotok rule to Dennis’ extraordinary list. That addition is: Respect Goodhart’s Law.
Charles Goodhart of Bank of England fame eloquently described how an indicator that no one knows about, or that very view follow, may be quite powerful in helping decision-making and forecasting. Goodhart observed that, as more and more folks know about it and use it, the indicator loses its efficacy. Kotok’s rule builds on the wisdom of Charles Goodhart by adding a second observation: Once the indicator becomes useless for predicting — and that usually coincides with its attaining ubiquitous presence (like the present day VIX) — there follows a period when it is no longer respected as it has lost predictive power. Thereafter, and gradually, its usage for decision-making declines. In my opinion, as that occurs, the indicator begins to restore some predictive efficacy. In other words, and again let me say that this is my view, Charles Goodhart’s Law is bidirectional.
Charles Goodhart’s writings are worth reading, and his contribution to economics is worthy of legacy respect. And he is a wonderfully articulate man in person. It has been my privilege to break bread with him.
Like Charles Goodhart, Dennis Gartman and Doug Kass merit high praise. For me, it is humbling to have had contact and discourse over time with all three of them. I haven’t given up on getting Doug to join us in Maine. The invitation is still genuine. He has softly and politely demurred in the past and always done so as a gentleman.
Here’s a final calculation. If you add up the ages of Gartman, Goodhart, Kass, and Kotok, you're in the 300-plus-year range of the Fossil Index. Readers may figure the rest of that one out for themselves.
Thanks, Doug, for the idea. Thanks to Dennis and Doug for the wisdom and permission to share the rules.
Here’s the quote from Doug’s email in its entirety:
Denny sent me his letter last night and attached to it were some pearls of wisdom — Gartman's Rules of Trading: The 2022 Version — that I wanted to pass on and which we all can learn from.
1. NEVER, EVER ADD TO A LOSING POSITION... NOT EVER!: Adding to losing trades eventually leads to ruin. All great market humiliations are first preceded by a person... or a group... doing so, such as the Nobel Laureates of Long Term Capital Management or Nick Leeson of Barings or Sam Bankman-Fried!
2. TRADE LIKE A MERCENARY: As investors we are to fight on the winning side of the trade, not on the side of the trade we believe to be economically correct. We are pragmatists first, last and always.
3. MENTAL CAPITAL IS EQUAL TO REAL CAPITAL: Capital comes in two types: mental and real. Losing trades diminishes one's finite, measurable real capital AND one's infinite and immeasurable mental capital... and does so always and everywhere.
4. WE ARE NOT IN THE BUSINESS OF BUYING LOW AND SELLING HIGH: We are in the business of buying high and selling higher, or of selling low and buying lower. Strength begets strength; weakness begets weakness.
5. IN BULL MARKETS, ONE MUST TRY ONLY TO BE LONG OR NEUTRAL: The corollary is that in bear markets one must only be short or neutral. There are exceptions, but they are rare.
6. "MARKETS CAN REMAIN ILLOGICAL FAR LONGER THAN YOU OR I CAN REMAIN SOLVENT:" Either Lord Keynes or my friend and mentor, Dr. A. Gary Shilling, said this many years ago and they were...and still are...right, for illogic does often reign, despite what the efficient market academics would have us believe. Witness FTX!
7. BUY THAT WHICH SHOWS GREAT STRENGTH; SELL THAT WHICH SHOWS GREAT WEAKNESS: Metaphorically, the wettest paper sack breaks most easily and the strongest winds carry ships the farthest and the fastest.
8. THINK LIKE A FUNDAMENTALIST; TRADE LIKE A TECHNICIAN: Be bullish when the technicals and fundamentals, as you understand them, run bullishly in tandem. Be bearish when they don't.
9. TRADING RUNS IN CYCLES: In the "Good Times" even one's errors are profitable; in the inevitable "Bad Times" even the best-researched trades fail. This is the nature of trading. Accept this and move on.
10. KEEP THINGS SIMPLE: Complication is confusing; simplicity breeds elegance and profitability.
11. UNDERSTANDING PSYCHOLOGY IS OFT TIMES MORE IMPORTANT THAN UNDERSTANDING ECONOMICS: Or more simply put, "When they're cryin' you should be buyin' and when they're yellin' you should be sellin'!" But golly, that is difficult!
12. REMEMBER, THERE IS NEVER JUST ONE COCKROACH: Bad news seems always to be followed by more bad news and always with an ever-worsening impact. Again, witness FTX!
13. BE PATIENT WITH WINNING TRADES; BE ENORMOUSLY IMPATIENT WITH LOSERS: The older I get the more small losses I willingly take.
14. DO MORE OF THAT WHICH IS WORKING AND DO LESS OF THAT WHICH IS NOT: This works in life as well as trading. If there is a "secret" to trading... and to life... this is it!
15: CLEAN UP AFTER YOURSELF: Need I really say more? Errors only get worse.
16. SOMEONE ALWAYS HAS A BIGGER JUNK YARD DOG: No matter how much "work" I do on a trade, someone knows more and is more prepared than am I... and has more capital!
17: WHEN THE FACTS CHANGE, CHANGE! Lord Keynes... again... once said that "When the facts change, I change; what do you do, sir?" When the technicals or the fundamentals of a position change, change your position, or at least reduce your exposure.
18. ALL RULES ARE MEANT TO BE BROKEN: But they are to be broken only rarely, and true genius comes with knowing when, where and why!
Good luck and good trading.
Dennis Gartman
