Ode to a speculator: Fictional trader offers useful lessons on investment

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The Independent Online
ANYONE who thinks investment success is about balance sheets and profit statements should read Reminiscences of a Stock Operator (by Edward LeFevre, published by John Wiley and Sons, pounds 24.95 hardback and pounds 11.95 paperback).

Written in 1923, this is a fictionalised biography of a speculator, Jesse Livermore, who made and lost a string of fortunes.

Livermore was a classic speculator, who operated equally happily on the bull or the bear tack. On Wall Street, he became widely known as a bear raider. But he always insisted that it was impossible to raid successfully a stock that was not in trouble.

Recent examples of directors claiming that the falling price of their shares was a result of unjustified speculative selling - such as Spring Ram and Hartstone, where both share prices collapsed and the directors left ignominiously - bear out Livermore's case. Essentially, he was a tape watcher whose most important maxim was never to fight the tape.

Livermore argued that if a company was doing well this would be reflected in a rising share price. This is because company insiders would be buying. A weak share price he regarded as a warning signal because it meant that even if the insiders were not selling they were not taking advantage of a lower share price to buy.

A key concept was the line of least resistance. This was the direction Livermore expected the share (or commodity) price to take once it had broken through a crucial price point. He liked to test the market by doing the opposite of what he really intended. Thus if Livermore was bullish he would first sell the stock heavily. If his selling was easily absorbed, he would buy on a massive scale.

If you are wondering how such a clever fellow kept on losing his fortune, the answer is that he made many mistakes while developing his techniques.

He also learned that the biggest gains came to the man who knew how to sit tight. Many stock market professionals miss out because although their position at the heart of the action means they spot opportunities at an early stage they often take profits far too early and deal far too often.

Livermore, who often built up huge holdings, had to capitalise on moments of high bullishness to sell without smashing the share price. He also had a custom of going off on holiday after a successful coup - which helped to prevent overactive dealing.

What would he be doing now? As a natural bear, he probably would have done well from the collapse in bond markets, particularly once the price action had established that the line of least resistance was up for yields and down for prices. On shares, though, I suspect he might be ready to buy after what has been a sharp fall in prices when the fundamentals look very solid.

A share that might catch his fancy would be the book publisher and multimedia group Dorling Kindersley. Floated amid great enthusiasm in October 1992, the shares have been hit by a string of negative developments including problems with a distributor, the departure of the managing director and a profit warning in December.

But significantly, although the shares took a buffeting, the price never collapsed and is now back to 299p, having been as low as 225p. My guess is that Livermore would be ready to make an initial purchase, especially if the price goes through 300p. The shares are tightly held in a thin market, but Livermore was a master manipulator. By aggressively buying and occasionally selling the shares he would boost activity levels and acquire a decent stake.

The attraction of Dorling Kindersley (DK) is multimedia. Many observers think multimedia has been overhyped, but I believe it is going to be one of the big stories in the next bull market and that DK could feature as one of the most favoured shares.

Figures due on 21 September for the year to 31 June will be down on the previous year's pounds 9.6m. But a week later the group will be launching the first five of its own multimedia products for CD-ROM players.

These impressive products look like compact discs but have huge storage capacity. They combine words and pictures on the screen in a Windows format, enabling viewers to interact with them, focus on the parts they are interested in, hear sounds and even see videos. Apparently, DK has even more mind-blowing wonders in the pipeline. Prices range from pounds 49.50 to pounds 99.50, and sales worldwide could be substantial.

For instance, one programme, David Macaulay's The Way Things Work is based on DK's book of the same title, which has already sold more than three million copies.

Group profits for 1994/95 are expected to be sharply higher, with more excitement to come. The shares look a classic speculative opportunity, not least because the long-term outlook is good.

(Photograph omitted)