Some people can have a lot of experience and still not have good judgement. Others can pull a great deal of value out of much less experience. That’s why some people have street smarts and others don’t. A person with street smarts is someone able to take strong action based on good judgement drawn from hard experience. For example, a novice trader once asked an old Wall Street pro why he had good judgement. “Well,” said the pro, “Good judgement comes from experience.” “Then where does experience come from?” asked the novice. “Experience comes from bad judgement,” was the pro’s answer. So you can say that good judgement comes from experience comes from bad judgement.

. . . Adapted from “Confessions of a Street Smart Manager,” by David Mahoney

Years ago we read a book that a Wall Street pro told us would give us good judgment by benefitting from the experiences of others who had suffered hard hits. The name of the book was “One Way Pockets.” It was first published in 1917. The author used the nom de plume of Don Guyon because he was associated with a brokerage firm having a sizeable business with the public and he had conducted an analytical study of orders executed for active public traders.

The results were “illuminating enough to afford corroborative evidence of general trading faults which persist to this day.” The study detected “bad” buying and “bad” selling, especially among active and speculative participants. It documented that the public “sells too soon, repurchases at higher prices, buys more after the market has turned down and finally liquidates on breaks… a true response in all similar Wall Street periods.”

For instance, the book showed that when a bull market begins the accounts under analysis would buy for value reasons; buy well, though very small. The stocks were originally bought for the longer term rather than for day-to-day trading purposes. But as prices moved higher participants were so scared by memories of the previous bear market, and so worried they would lose their profits, they sold. At this stage “the accounts showed scores of complete transactions, yielding profits of less than two points, liberally interspersed with losses.”

Then in the second phase, when accounts were convinced that the bull was for real and a higher market level was established, stocks were repurchased, usually at higher prices than where they had previously been sold. “At this stage larger profits were the rule; three, five, seven and even ten points were taken… the advance had become so extensive that several attempts were made to find the ‘top’ with short sales… the experiments were almost always disastrous.”

Finally, in the latter stage of the bull market the recently active and speculative accounts would tend not to over-trade or try to pick “tops,” but resolved to buy and hold. So many times previously they had “sold” only to see their stock dance higher, leaving them frustrated and angry. “The customer who months ago had been eager to take a profit on 100 shares of stock would not take ten points of profit on 1000 shares of the same stock now that it had doubled in price.” In fact, when the market finally broke down, even below where accounts bought their original stock, they bought more. They would not sell. The tendency of the trading element at this mature stage of the bull market was to buy breaks. The author concludes that their trading “methods had undergone a pronounced and obvious unintentional change with the progress of the bull market from one stage to another . . . a psychological phenomenon that causes the great majority to do the direct opposite of what they ought to do!” Conclusion: “The collective operations of the active speculative accounts must be wrong in principal… so the method that would prove profitable in the long run must be the reverse of that followed by the consistently unsuccessful.”