Thursday, April 5, 2012

Would you rather be a Jesse Livermore or a Warren Buffett?

Every one who has ever bought a company share or a mutual fund must have heard of Warren Buffett – one of the wealthiest men on earth and a firm proponent of long-term value investing principles. His holding company, Berkshire Hathaway, has made immense amounts of money for its shareholders and owns stocks is some of the largest and most well-known companies. His annual letters to shareholders – liberally sprinkled with worldly wisdom - are avidly read by investors and fund managers all over the world.

But who is Jesse Livermore, and why should he be compared with Warren Buffett? Those who have already read ‘Reminiscences of a Stock Operator’ by Edwin Lefevre may skip to the last paragraph. For the less informed, here is Jesse Livermore’s fascinating story:

A farmer’s son, Jesse left home in 1891 and joined a brokerage firm in Boston, USA posting stock quotes. He was 14 years old. He started placing small wagers in a ‘bucket shop’ – a gambling establishment that accepted bets on stocks and commodities without actual physical delivery. Sort of like our earlier ‘badla’ and current F&O trading. In a year, he had made $1000 (equivalent to about $25000 in today’s money).

He continued betting for a few more years till he got banned from the ‘bucket shops’ for making too much money. He left for New York and started proper trading in the stock market. In 1901, within a year of his first of three marriages, he went broke. His wife refused to lend him her jewellery to start afresh and their marriage fell apart.

In the crash of 1907, Jesse observed a liquidity crunch and heavily shorted the market. He ended up with a profit of $3 Million – a huge amount in those days – and promptly blew most of it away on a bad cotton trade. He had developed certain trading rules for himself, but forgot them in his panic. He listened to other people’s advice and kept adding to his already losing position. By 1912, he had debt of $1 Million. During and after World War I, he not only made good all his losses but had multiple homes and cars in different parts of the world. At age 41, he married an 18 year old dancing girl.

Then came the crash of 1929. Liquidity conditions were similar to that of 1907, and Jesse shorted stocks as if there was no tomorrow. Almost every one lost money in the great crash. Livermore ended up with a whopping $100 Million profit. In 1933, he married for the third time. It was his wife’s 5th marriage. All her previous husbands had committed suicide.

By 1934, Jesse Livermore went bankrupt again. No one knows how he managed to lose such a large sum of money. In 1940, he shot himself. A suicide note for his wife stated that he was a failure and this was the only way out.

Those of you who do not like the boring, long-term buy-and-hold investing style of Buffett and prefer the excitement and adrenaline rush of short-term trading, here is a famous quote from Jesse Livermore: “The game of speculation is the most uniformly fascinating game in the world. But it is not a game for the stupid, the mentally lazy, the person of inferior emotional balance, or the get-rich-quick adventurer. They will die poor.”

Related posts

Why long-term investors should look at the big picture
Do you like short-term Trading or long-term Investing?


Prabhakar Kudva said...

Although Livermore's end was tragic and quite ironic, some of the lessons that he has shared are more useful and also probably easier to follow for the retail investor than the ones shared by Buffett.

Buffett expects that the retail investor will know a whole lot about the business and given a price we will be able to distinguish value from value trap. Easy as it may sound reading his annual letters we all know how many people actually end up successfully following Buffett.

Livermore on the other hand assumes you don't know much about the business and your only cue is the price action. His idea distilled is just this - buy whats going up and sell whats going down and while you do that ignore your purchase price.

Personally i feel people would be more successful following Livermore's advice (this and others) than they would following Buffett's, not because Buffett is wrong (or less right) but because his methods are not simple to follow (although his genius has everyone believe his methods are very simple) and his business set up (free float), which is responsible for his outsized success is hard to emulate.

Kishor Barhate said...


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Subhankar said...

@Prabhakar: Thanks for your detailed comments.

Livermore started working before completing high school. He had a phenomenal memory and was good with figures. Analysing businesses wasn't within his Circle of Competence. He only understood the price momentum of stocks. This is what technical analysis is based on - observing price patterns.

Unfortunately, successful technical analysts are few because price patterns do not always play out the way they may have done in the past.

Following Graham or Buffett is hard work and time consuming, which doesn't appeal to most investors who think the stock market is a place for making quick money. Those who succeed initially - more due to luck than design - are unable to keep their money.

Livermore and Buffett are exceptional investors with philosophies that are poles apart. Ordinary investors can never turn into a Livermore or a Buffett - but it may be better to try and emulate some one who has not only made big money but managed to keep it instead of blowing it all away.

@Kishor: Titan, Pidilite and Opto Circuits are good companies that are market leaders in their respective niches. Investors have benefitted hugely from their stocks. I don't track Himadri or Banco.