Interview  |  MAR 2010

Market Ticker’s Karl Denninger by J. Gopalakrishnan and B. Faber

Market Ticker’s Karl Denninger by J. Gopalakrishnan and B. Faber Karl Denninger tells you like it is. He is the former Ceo of McsNet, a regional Chicago-area networking and Internet company that operated from 1987 to 1998. McsNet offered several “firsts” in the Internet Service space, including integral customer-specified spam filtering for customers and the first virtual web server available to the public. Denninger’s other accomplishments include the design and construction of regional and national IP-based networks and development of electronic conferencing software reaching back to the 1980s. He has been a full-time trader since 1998, author of The Market Ticker (http://market-ticker.org), a daily market commentary, and operator of TickerForum, an online trading community, both since 2007. Denninger received the 2008 Reed Irvine Accuracy In Media Award for Grassroots Journalism for his coverage of the 2008 market meltdown. Stocks & Commodities Editor Jayanthi Gopalakrishnan and Staff Writer Bruce R. Faber spoke with Karl Denninger via telephone on January 6, 2010. Carl, how did you get interested in the markets? I ran an Internet company in the 1990s in Chicago. I traded in the technology space because that was what I knew at the time. I sold the business in 1998 to Windstar Communications. They were one of the high-flying explosions during the tech wreck, but their check was good. My shareholders and I decided to take the money and run because it was the wise thing to do. It turned out to be a propitious call — about a year early, but better early than late. The early 2007 blowup started over in Asia. At that point I came out of the passive investing mode I had been in over the previous three years. I started digging into why the blowup occurred, because those things don’t happen without a reason. What did you discover? The same kind of fraud that went on in the technology sector had transplanted itself into the financials and the housing market. That’s when I decided it was time for me to not only get active with my investing, because I needed to preserve the capital that I have, but I was also not going to allow this to happen a second time without people knowing about it. Based on what I have read on your blog and heard from your presentations, it seems to me you give a lot of importance to chart analysis. Is that correct? Yes and no. Technical analysis is a windsock. It is a useful tool, but the most important thing that people need to look at in the market is whether the fundamentals of the economy and the backdrop from a capital market perspective match what is going on with price. If they do, it is safe for you to be invested in the market, whichever direction it is moving. When they don’t align, as is the case now and has been since last spring, the only thing you can do is sit it out. Why is that? If you can trade actively, there are opportunities to make money. There are also opportunities to lose money. If you cannot trade actively for whatever reason — say you have to hold a regular job — moves tend to revert to the mean at ferocious rates, and you are not able to get out or protect yourself. This is how you lose all your money instead of just a little of it. What’s the first rule over long periods of time? Don’t lose money. That’s my goal, because I am in a semiretired position where I trade for a living. If I lose everything, I’ll have to hand out cards at Wal-Mart. So my goal is to be able to continue to perform over 10-year periods. In my situation, I am taking money out to live on. Most traders cannot do this. The ugly truth is that most traders will have a couple of very good years and some of them will have exemplary years, but if you look at their actual record over a 10-year period, most of them will lose their shirts. That is because they go against the foundational rule; you only gamble with money you can afford to lose. The rest should be invested, not gambled with. So they lack proper money management? Yes. It is a risk management problem. What frequently ends up happening, especially with people who trade actively, is if you have a bad start, you get discouraged, and you leave. But the worst thing is to have a good start. Some of these people during the crash took $100,000 and turned it into $5 million. Then over the last year they gave it all back. What they didn’t do was take $4.5 of the $5 million and put it away, and gamble with the other $500,000. If they had done that they would still be rich, even though they lost $400,000 or $500,000.

by J. Gopalakrishnan and B. Faber