Ep. 1377: Men Can't Make Babies and the Zero Sum Game with Michael Covel on Trend Following Radio

Please enjoy my monologue Men Can't Make Babies and the Zero Sum Game with Michael Covel on Trend Following Radio. This episode may also include great outside guests from my archive. --- I'm MICHAEL COVEL, the host of TREND FOLLOWING RADIO, and I'm proud to have delivered 10+ million podcast listens since 2012. Investments, economics, psychology, politics, decision-making, human behavior, entrepreneurship and trend following are all passionately explored and debated on my show. To start? I'd like to give you a great piece of advice you can use in your life and trading journey… cut your losses! You will find much more about that philosophy here: https://www.trendfollowing.com/trend/ You can watch a free video here: https://www.trendfollowing.com/video/ Can't get enough of this episode? You can choose from my thousand plus episodes here: https://www.trendfollowing.com/podcast My social media platforms: Twitter: @covel https://twitter.com/covel Facebook: @trendfollowing https://www.facebook.com/trendfollowing/ LinkedIn: @covel https://linkedin.com/in/covel/ Instagram: @mikecovel https://www.instagram.com/mikecovel/ Hope you enjoy my never-ending podcast conversation!

• 0:00Speaker 00

  We live in strange times, but maybe it's always been strange. And strange equals a lot of people making dumb decisions. Objectively dumb, factually dumb. Now, before I connect this to the markets, I want to use something that is in the public debate as of right now. In America, the Supreme Court is hearing a case about whether or not men can compete in women's sports. Seems like this is something that humanity decided a long time ago, but in the era of wokeness, there's a lot of people that actually believe that if men declare themselves

• 0:43Speaker 00

  to be a woman for any particular reason at any moment, they can do so. Now, that is batshit crazy. I think it's the kind of thinking that can ultimately lead to civilizational implosion. It can lead to war because it's so disconnected with reality. But look, we have a Supreme Court Justice sitting on the United States Supreme Court who refused in her hearings to become a Supreme Court Justice. She refused to define what a woman is and apparently did not know. Now, of course, she knew, but she is woke and she was playing the game. Recently, there was a hearing in the United States Senate.

• 1:27Speaker 00

  A senator was questioning a witness for the side that frankly believes that there's no difference between men and women and anybody can be anybody they want to be. And this senator was pressing this doctor about whether or not, you know, men can participate in women's sports. And eventually, the senator was pressing this woman, this witness for the other side, as to whether or not men can give birth. He asked this doctor 11 times. She refused to answer because in her twisted reality, she actually believes that a woman who declares herself to be a man can give birth.

• 2:12Speaker 00

  Therefore, men can give birth. I mean, I get what these people are doing. I get the distinction of what they're trying to do. It's societal implosion. It's civilizational implosion. It's insanity. It is the definition of woke. But I lay all this out there because this is who you're up against. You're up against all kinds of people in the markets who think all kinds of stuff. They have biases. They have understandings. They have ways of acting that literally could be psychotic,

• 2:53Speaker 00

  insane, and in no way connected to anything that has to do with reality. And you know what? That is awesome. That is exciting. And you should be excited as hell that you're competing against people who are brain dead, who are out there, who have no idea about anything. Because if you're walking around and you say a man can give birth, aren't you kind of insulting women who actually can give birth? Kind of think so. Not only you insulting women, you're insulting everyone. You're insulting everyone that happens to have an IQ. But hey, in this day and age, a lot of people don't have an IQ, apparently.

• 3:39Speaker 00

  So this is the playing field. And look, I'm just picking on this one issue to show how people can be completely out there, not connected to anything that's even real. So it leaves us all in a big game. The markets are a big game. Everyone ponies up with their money to buy and sell, whether it's gold or silver, or Michael Saylor, or Bitcoin, or whatever AI stock. We all pony up and we all play the game. Corn, palladium, wheat, oil, Tesla, Apple. It doesn't make a difference. It's just a big game. Everyone has their rules for their game.

• 4:24Speaker 00

  Now, some people are going to have immature rules. You know, I heard Joe Kernan and David Faber say something on CNBC. Therefore, I bought with no idea when I will sell. Other people could be reading the charts. They will tell you that when they look at the chart right now, they can tell you what's going to happen next. You got other brain dead fuckers out there telling you that there are waves in the markets and they can read the waves and they can count the waves. And if they keep counting the waves, eventually they're going to tell you exactly when to buy and exactly when to sell. There's even crazy fuckers out there that say that they can look at the moon. They can look at the tides. All this stuff.

• 5:09Speaker 00

  This all goes into the big stew that we call the market. Now, there also is in this market, people with very advanced strategies, advanced systems rooted in math and advanced psychological understandings. For example, rooted in the work of Daniel Kahneman as but one example. Ed Sokota, of course. Trend followers are those kinds of folks. They want to be on the other side of the people with the bad strategy. In fact, that was something that David Drews pointed out when I first spoke with him over a decade ago. David Drews, a student of Ed Sokota's.

• 5:54Speaker 00

  And he was looking at who was winning and losing in the futures markets and saying to himself, and I'm paraphrasing a little bit here, but saying to himself, wow, there are people in the futures markets that are losing money. Can I be on the other side of that? Now, remember, sometimes people are hedging. There's hedgers and there's speculators. Now, at the beginning of this podcast, I was making the example that there's just a bunch of brain dead motherfuckers who have no idea what they're doing and will lose their money. That's true. But there are also people out there that are using the markets for hedging, for insurance purposes. And they really don't have a problem with losing that money because it's insuring their way of life.

• 6:39Speaker 00

  It's insuring their business, essentially, their crops.

• 6:43Speaker 00

  Their metals position, whatever it might be. So again, in this game, there are people with bad strategy or no strategy or no brain. There are hedgers and then there's speculators, the trend followers. And they say to themselves, how can I collect that money from those people? That either want to lose their money from a hedging perspective or just have bad strategy. And that doesn't always mean that trend followers are going to win. We already know that trend followers are not going to always win. They have a lot of small losses. If markets go against them, those small losses can add up. Things happen. You can get a drawdown.

• 7:25Speaker 00

  Remember the drawdown in trend following is not because one market goes from 100 to 60. That's not generally how it happens. To go from a level 100 to a level 60 is a bunch of markets taking many small losses. And the small losses adding up. So if you see a trend following trader who has a down spell, that's normal. I mean, what else can you conclude if you look at the data? A trend following trader with a drawdown is normal. There is no, it always goes up. You always make money. That's just not the case.

• 8:06Speaker 00

  Now, look, in equity markets typically, there will be long stretches of going up. The buy and hold can work for a long period of time. And then it could shit the bed. Like, for example, the fall of 2002 when the NASDAQ was down almost 80%. And stayed down for over a decade. That stuff happens. But back to my big picture that I'm leading you to today. This game, the winners and the losers. Winners and losers. In the zero sum game, because you see, trading is a zero sum game when measured relative to the underlying fundamental values.

• 8:48Speaker 00

  No trader can profit without another trader losing. People trade because they obtain external benefits from trading. Those benefits include expected returns from holding securities, risk reduction from holding correlated assets, and gambling entertainment. Now, I'm reading a little bit from a white paper called "The Winners and Losers of the Zero-Sum Game", written by a guy named Larry Harris, who I will get to in a second. So, his paper, which you can find on my website, there's three groups of stylized characteristic traders. That's who he examines. Winning traders trade for profit. Utilitarian traders trade because their external benefits of trading are greater than their losses.

• 9:29Speaker 00

  And futile traders, the ones who think men can give birth, expect to profit, but for a variety of reasons, their expectations are not realized. Winning traders make prices efficient and provide most liquidity. Utilitarian and futile traders effectively underwrite the winning traders' efforts. And that's the abstract of Larry Harris's Zero-Sum Paper, which you can find at trendfollowing.com/resources. It's free, no login, don't have to sign up for anything. But if you like it, you know what? Send me an email. I'd love to hear from you. My email, real simple, [email protected], C-O-V-E-L dot com.

• 10:13Speaker 00

  But in my little bit of a rant today, I want to share a little personal story about this particular paper, because I think I posted this paper in the late 90s, early 2000s, for the first time.

• 10:26Speaker 00

  And I thought it was great because it really gave an academic explanation for why trend following excels. And again, later on, when I spoke to David Drews, he made this point as well. But it was Larry Harris, who happened to be the Chair of Finance at the University of Southern California, who wrote this paper. I didn't ask for permission, and I had one of the most popular websites early on, and I posted it. And at some point in time, I'm guessing between 2001 and 2002, somewhere in there, I could figure it out exactly if I went and looked at my emails, but Larry texted me. He didn't know who I was, and I didn't know who he was. And I don't think my name was on the internet. I

• 11:11Speaker 00

  was just promoting great trend following information. This was a couple of years before my first book, Trend Following, came out in 2004, April of 2004, to be exact. So Larry emails me, and he says, hey, you've got my white paper posted on your website. And I get more feedback and more interest from your post of my zero-sum paper than anywhere else. And I'm paraphrasing a little bit here, but he was kind of like, who the fuck are you? Why is this happening? And oh, by the way, I've written a new book. Would you like to read it and perhaps tell people about it? And he had written a great foundational

• 11:53Speaker 00

  text on the markets, on trading. So I was like, sure, you know, smart guy, Chair of Finance at one of the biggest business schools in the world. I'm just an average guy who probably could not have even got into his business school. But I was on to something. I knew he was doing good work. So I promoted his white paper to my people about trend following. So I did a book review. I posted it. I might have even been doing some early podcast episodes before my first book came out, which would have been 2002, 2003. But nonetheless, I did something to help promote his new book. He sent me a copy. What a serendipity type moment, right? I don't ask for permission. I post this guy's great white paper on zero sum trading,

• 12:38Speaker 00

  the foundation of trend following. He writes me, thanks me, sends me a book. And then I did something a little interesting. I asked him, I said, hey, you know, I'm writing a book. And I was in the very early stages of it. And I said, would you mind introducing me to your publisher? He did. And I remember the guy's name, I might have already shared it on this podcast. I'm sure I told this story in some version over the years. So I reached out to the guy that he shared with me. And it was a big firm, Oxford University Press. And they liked what I was doing online. They liked my idea of a trend following book.

• 13:18Speaker 00

  Essentially, we agreed to a deal. And at the 11th hour, Oxford University Press declined to be the publisher for my first book. Now, that really sucked. Because I had told people I was writing this book. I told people I had a publisher. I did. Now, we had not signed the fine print. But the agreement was in place. I don't know why they walked. If I look around 2025, maybe they were an early version of a woke company. I've not looked at anything they've done recently, but it would not surprise me. And perhaps I said something back in the day where they said to themselves, oh, my God, that guy's a hot potato. He's not like us. He might say something that's a little bit damning. We might not

• 14:03Speaker 00

  want association with that guy. So Oxford University Press declined to publish my first book. Damn, that sucks. But you know what I did? And here's a lesson for you. I told the guy at Oxford University Press in a very agitated, upset way, I said, "Listen," and I didn't use bad language, but essentially what I was saying was, "Look, MF, you better give me another publisher. You better give me somebody else because you really have done me bad." And he did. He connected me with another publisher. Jim Boyd at Pearson,

• 14:44Speaker 00

  Prentice Hall, Financial Times, all these different names combined into one publisher. Jim didn't know me, but he took a chance, liked what I had to say, and that book is for sure sold over a million copies now. So yeah, Oxford University Press fucked up, and Jim Boyd, he took a chance, and he got a bestseller on his resume. Good job, Jim. I gotta tell you, a lot more stories went into it that once I signed with Jim because it was an up and down process to get a book out there, even once the deal was signed. So anyways, that's a nice little fun side tangent, but it really comes back to Larry

• 15:24Speaker 00

  Harris and his zero-sum paper. And what's great about this paper is that he makes just simple points in it that I think anybody can really grab on to. For example, "Trading performance reflects a combination of skill and luck. Successful traders may be skilled traders or simply lucky unskilled traders. Likewise, unsuccessful traders may be unskilled traders or unlucky skilled traders." That's just puts you in the moment of understanding the foundation that I started with. He's saying what I was saying in a very controversial-type

• 16:05Speaker 00

  way about the people that believe that men can give birth. He's essentially saying that, but in a very academic way. He makes another point, which I think is great. "In the long run, skilled traders produce better performance than unskilled traders." Skill systematically affects returns, but luck is random. Given enough time, good luck and bad luck tend to offset each other. Luck is not persistent, but skill generally is assumed to be persistent. And he's not writing about trend following in here at all. But he is actually. Let me take it a step further because this is where he really goes.

• 16:47Speaker 00

  The meaning and implications of this zero sum game that I've been talking about for the last 20 minutes. Because you see the profits and losses of all players in a zero sum game sum exactly to zero. The winners' profits are the losers' losses. I know a lot of people understand that and a lot of people think like that. But what is a lot and what is many? I'm going to guess it's like 5% of the population. I'm going to say that probably 95% of the people out there do not think about when they're playing in this game. Their wins come from someone else losing. This is different than poker. Poker is an entirely different thing.

• 17:32Speaker 00

  In the futures markets, the long gold and the short gold, it depends on which way gold is going. And if you're short gold, you're making money and you're taking money from who? The people that are long gold. This is how it works. This is why you need a system. Because once you understand this, once you understand this foundation of trading as a zero sum game, there's no other way to play it than, oh my God, there are unlimited opportunities. And to keep track of these opportunities, I need a system. I need a set of rules that allow me to participate. And then it just becomes mechanical. It becomes a system again. Here's something else that he talks about which.

• 18:17Speaker 00

  Gets at what I've been talking about in a more academic way. Rational traders will not play a true zero-sum game in which they only value trading profits. If all traders were all alike, all expected returns would be zero and no one would benefit from trading. If some traders are more skilled than others, the skilled traders would want to trade, but the unskilled traders would not. No one would trade. To explain why rational traders trade, we must recognize that some people trade for more than just expected profits. People trade to hedge risk, to move funds from one point in time to another, to exchange

• 18:59Speaker 00

  assets, to earn an unconditional expected return, to learn whether they can expect the profit from trading and to take pleasure from gambling. These external benefits make trading a positive-sum game. If the external benefits to trading are great enough, traders will trade even though they expect to lose. Skilled traders will profit to the extent that unskilled traders are willing to trade for external reasons. Let me say it in another way. Trend following does really well primarily because on the other side are hedgers and batshit crazy people who don't care if they lose all their money. There you go. Once you understand the markets as a game, if you're not willing to go down the system

• 19:44Speaker 00

  path, okay, I get it. Maybe you're a masochist. I probably can't help you. But if you're not a masochist and you want to learn how to play in this zero-sum game with a trend-following strategy, give me a shout because I guarantee you I can help you. See you again next week.

• 20:10Speaker 00

  I see a time when those awake will understand how to make money in up, down, and surprise markets. Whether a new trader or experienced, college student or financial advisor, protecting against a crash or just trying to make a lot of money, trend following offers everyone an answer in uncertain times. To get started immediately, send me an email, [email protected]. I will send you the right trend following steps to take along with my free video. But if you want to buy and hold, trust the government and trust Wall Street, this is absolutely not for you.