What I Learned Losing A Million Dollars

ISBN-10: 0231164688


Recommended multiple times by Tim Ferriss on his podcast, I was fascinated by Jim Paul and Brendan Moynihan’s book, What I Learned Losing a Million Dollars.

The book is Jim Paul’s account of how he was able to find success–in high school, college, the military and in his career—and how it also led to his eventual misfortune due to the psychology around his success.

The first part was Jim’s story, taking you on the journey to understand how he got to where he did. The next part is what he learned from losing and how to utilize his insights for yourself, whether in investing or in business.


My Notes:

The loss of money didn’t happen because of a faulty method of analysis. It was the psychological distortion accompanying a series of successes, drawing did you go into the market position and setting itself up for the disastrous loss.

Herb Kelleher, CEO of southwest airlines: “I think the easiest way to Lou success is to become convinced that you were successful.”

Smart people learn from their mistakes. Wise people learn from somebody else’s mistakes.

Note the negotiation tactic of being willing to walk away… This person is the most in control of the situation: walking into a potential position for an extremely successful person and a huge amount of money, the author said “I’m extremely flattered that you called me in to see you. I think working for you will be absolutely super. But as flattered as I am, I don’t think I can take the job.”

“it’s that number. I really don’t want to live in New York, and neither does my wife. I could do it. I could open a travel agency in Afghanistan, if the numbers were right. I have a new bride who’s pregnant with their first child, and she doesn’t want to move to New York. We could deal with it. But we would have to be compensated for dealing with it, and quite frankly, $23,000 doesn’t do it.”

You want to play fallout not due to fear of losing. You want to playful out because if you choose to playful out and don’t get it or you choose to not participate at all and don’t get it… The outcome is the same. No big deal. Your ego doesn’t get all wrapped up in it, but the freedom to go all the way for it and really give everything you have but not for the motivation of fear of loss, rather from a motivation of it being a game. You might as well play full out because the outcome of doing so or not doing so and not getting it will be the same.

You also want to dress the part. If everybody in the room around you is well-dressed, you want to be extremely well dressed.

When the author was losing money and still not getting out of market, he rationalized and kept finding hope in staying in. He couldn’t get out of the market because as long as he had the position, there’s always a belief, the chance, the hope, that he could make back the money. If he got out of the market completely, there wouldn’t be that chance anymore. Notice how the ego will hang on and keep rationalizing because of that irrational hope.

The author later discovered that learning how not to lose money is more important than learning how to make money. Unfortunately the pros don’t explain how to go about acquiring that skill. So the author decided to study loss in general, and his losses in particular, to see if you could determine the root causes of losing money in the markets.

Studying the various analytical methods for making money in search of the “best one” is a waste of time. Instead what should be studied are the factors involved in applying, or failing to apply, any analytical method.

Why can’t people match the profitable performance records of the market advisory services they subscribe to? They can’t because of psychological factors that prevent them from applying the analysis and following the recommendations.

The mental processes of people who lose money in the markets

All losses are treated his failure; in every other area of our lives, the word loss has negative connotations. People tend regard the words loss, wrong, bad, and failure is the same and win, right, good, and success the same.

For example, we lose points for the wrong answers on tests in school. When we lose money in the market, we think we must’ve been wrong. It’s actually not emotional in that way. It’s a matter of numbers: did you gain money or did you lose money? It’s not about being right or wrong or bad or failing.
All losses can be categorized either as:

1 – internal, such as self-control, steam, love, your mind
2 – external, such as a bet, a game or contest, money

Extra losses are objectives and internal losses are subjective.

External losses are not open to subjective, individual interpretation. It is an objective fact. Internal losses are defined in terms of the individual, subjective experience.

If you can aluminate ego from the decision-making process, you can begin to control the loss caused by psychological factors. The trick to preventing market losses from becoming internal losses is to understand how the shift from being an external to an internal thing happens and then avoid the processes.

To do this, it starts with distinguishing between fact and opinion. With regard to the markets, only expressed opinions can be right around. Market positions are either profitable or unprofitable, that’s it. But due to the vocabulary quirks mentioned above, it’s easy to equate losing money in the market with being wrong. In doing so you take what had been a decision about money (external) and make it a matter of reputation and pride (internal).

This is how your ego gets involved in the position. You begin to take the market personally, which takes a loss from being objective to being subjective.

The use of the terms right and wrong when describing a market position or business dealing means an opinion has been expressed, which only a person can do; the market position or business venture has been personalized and therefore any losses (or successes) are going to be internalized.

Five stages of internal loss:

Internalizing an external loss becomes a lot easier when you have a continuous process versus a discrete event.

A continuous process is an activity that has no clearly defined end. These losses are much more prone to become internalized because, like all internal losses, there is no predetermined ending point. The participant gets to continuously make and remake decisions that can affect how much money he makes or loses. Think of the markets.

A discrete event has a defined ending point, which is characteristic of external loss. The loss is definitive and not open to interpretation. For example, a football game, roulette, blackjack, or other casino game.

In a continuous process, nothing forces you to acknowledge it as a loss. As long as your money holds out, you can continue to kid yourself that the position is a winner that just hasn’t turned your way yet. The position may be losing money, but you tell yourself it’s not a loss because you haven’t closed the position yet. This is especially true for stock market positions because when you own the stock out right, no margin call is going to force you to call a loss a loss.

There are five different activities when it comes to investing and risk. It is important to understand what kind of investor you are depending on the activity you do:

Investing – parting with capital in the expectation of safety of principal and an adequate return on the capital in the form of dividends, interest, or rent.

Trading – basically an activity in which someone, usually a dealer, makes a market in a given financial instrument.

Speculating – buying for resell rather than for use or income as is the case for commodities or financial instruments.

Betting – an agreement between two parties where the party proved wrong about the outcome of an uncertain event will forfeit a stipulated thing or some to the other party.

Gambling – a derivative of bedding. This is to wager money on the outcome of the game, contest, or event or to play a game of chance for money or other stakes.

Gambling, investing, and trading are not defined by any particular activity itself but by how the person approaches the activity. All cardplaying is not gambling, all stock purchases are not investing, and all futures transactions are not trading.

Psychological fallacies

1. The first fallacy is the tendency to overvalue wagers involving a low probability of a high gain and two undervalue wagers involving a relatively high probability of a low gain. Best examples are the favorites and the longshots at race tracks.

2. The second is a tendency to interpret the probability of success of independent events as additive rather then multiplicative. In other words, people view the chance of throwing a given number on a die to be twice as large with two throws as it is with a single throw.

3. The third is the belief that after a run of successes, a failure is mathematically inevitable, and vice versa. This is known as the monte Carlo fallacy. A person can throw double sixes in craps 10 times in a row and not violate any laws of probability because each of the throws is independent of all others.

4. Fourth is the perception that the psychological probability of the occurrence of an event exceeds the mathematical probability if the event is favorable and vice versa. Example: the probability of success of drawing the winning ticket in the lottery and the probability of being killed by lightning may both be one in 10,000, yet from a personal viewpoint, buying the winning lottery ticket is considered much more probable.

5. Fifth is the tendency to overestimate the frequency of the occurrence of infrequent events into underestimate that of comparatively frequent ones after observing a series of randomly generated events of different kinds with an interest in the frequency with which each kind of event occurs. They remember the streaks in a long series of wins and losses and 10 to minimize the number of short-term runs.

6. The next is the tendency to confuse the occurrence of “unusual” events with the occurrence of low – probability events.


Mania is defined as an in ordinately intense enthusiasm or hope for something; a craze, a fad, or behavior that enjoys brief popularity and pertains to the common people or people at large. Panic is defined as a sudden, overpowering terror often affecting many people at once.

Notice that the definitions of both mania and panic have direct references to hope, fear, and the crowd.

Manias and panics can occur on the scale of an individual making decisions about entering and exiting the market. The market doesn’t even have to be volatile for this to happen. It can be going sideways, an individual can experience a solitary panic or mania simply by exhibiting the characteristics of a crowd coupled with hope or fear.

Summary: people lose — really lose, and not just occasional free-wheeling trades — because of the psychological factors involved with loss, not analytical factors. They personalize the market in their positions, internalizing what should be external losses, confusing the different types of risk activities (i.e. Gambling vs trading vs speculating vs investing, etc) and finally, making crowd trades.

So how do you avoid this?

By having rules to analyze, and rules to follow and if/then scenarios so that you have the logic in place before you become involved and emotion kicks in.

If you occasionally break the rules and still have an unbroken string of successes, you’re likely to compound the problem because you assume that you were better than other people and above the rules.
Your ego and plates, and you refuse to recognize the reality of a loss when it comes. You assume that you will be right. You will justify your situation regardless of whether you are “winning” or “losing” because your ego will become involved, and you will begin to personalize it.

When dealing with risk of the uncertainty of the future, you have three choices: engineering, gambling, or speculating.

The engineer knows everything he needs to know for technologically satisfactory answer to his problems. The engineer therefore basically operates in a world of certainty since he knows and controls most of the variables which affect the outcome of his work.

The gambler, on the other hand, knows nothing about the event on which the outcome of his gambling depends because the distinguishing feature of gambling is that it deals with the unknown. The gambler place for the excitement – the adrenaline rush. He isn’t playing to win – he is just playing.

The speculator doesn’t have the advantage of the engineer. But the speculator does know more than the gambler because while the gambler is dealing with pure chance, the speculator has some knowledge about what determines the outcome of his activity. Speculating is the application of intellectual examination and systematic analysis to the problem of the uncertain future.
Successful investing is the result of successful speculation.

Successful hedging, too, is a function of successful speculation: the hedger examines current and prospective business and market conditions, and he speculate as to how they might change and whether he can turn a profit at today’s prices. If so, he hedges his inventory or inventory needs.
Speculating and planning are the same thing. A plan allows you to speculate with the long term horizon like an investor, short-term horizon like a traitor, or on a spread relationship as a basis trader or a hedger.

A plan is a detailed scheme, program, or method worked out before hand for the accomplishment of an objective. It means to think before acting, not to think and act simultaneously nor to act before thinking.

Without a plan, you fall into one of two categories: a bettor, if your main concern is in being right, or gambler, if your main concern is entertainment.

The decision-making process is as follows:

  1. Decide what type of participant you are going to be
  2. Select a method of analysis
    Develop rules
    Establish controls
    Formulate a plan

You must select a method of market analysis that you were going to use. Otherwise you will jump back-and-forth among several different methods in search of supporting evidence to justify holding onto your position.

Because there are so many ways to analyze a market (or a situation), you will inevitably find some indicator from some method of analysis that can be used to justify holding your position. You will either keep a profitable position longer than originally intended and possibly have a turn into a loss, and you will rationalize holding a losing position far beyond what you were originally willing to lose.

You must define what constitutes an opportunity for you; you must define all parameters that will define opportunities and determine how and when you will act.

Next you must establish controls, the exit criteria that will take you out of the market either at profit or a loss.

Regardless of the methodology used, before you decide to get into the market, you have to decide where or when or why you will no longer want the position.

The first step in planning is to ask of any activity, any product, any process or market, “if we were not committed to it today, would we still get into it right now?”

After you know where you want to get out of the market, then you can ascertain whether and where you’re comfortable getting into the market.

A preoccupation with wanting to be right or wanting to be perceived as being right, explains people’s tendency to focus on why the market is doing what it is doing instead of what it is doing. They are constantly asking, “why is the market up or down?” He does not really want to know why. If he is long, he wants to hear the reason so he can reinforce his view that he has right and feel even better about it. If he is not long, he is probably short and wants to know what the market thinks the market is up so that he can argue with that and convince himself that he is right and the market is wrong.

A plan establishes objective criteria and forces you to distinguish between decision making based on thinking and decision making based on emotions. What’s the difference? Thought–based decisions are deductive while emotion–based decisions are inductive. Inductive puts acting before thinking, establishing a market position and then doing the work, selectively emphasizing the supporting evidence and ignoring the non-supporting evidence. Deductive thinking is consistent with thinking before acting: doing all of your homework/analysis and then arriving at a conclusion of whether, what, and when to buy and sell.

Remember, participating in the market is not about egos and being right or wrong and it’s not about entertainment. Participating in the market is about making money; it’s about decision-making implemented by a plan. If done properly, it’s actually quite boring waiting for your buy/sell criteria to materialize. The minute it starts getting exciting, you are now gambling.

After you have developed your plan, and start preparing your next move, you should start by putting pen to paper. To prevent unintentional and implicit violation of your plan, no device is more effective than sitting down that plan before your eyes explicitly in black and white. This objectifies, externalizes and de-personalizes your thinking so you can hold yourself accountable.